Why do most business owners want to know about the value of their business? This question is not intended to be fl ip, but it is one that needs to be answered. Of course, there is the curiosity factor, but there is usually something behind that wanting-to-know. Does an owner need to know for estate purposes? Does the bank want to know for lending purposes? Is the owner entertaining bringing in a partner or partners? Is he or she thinking of selling? Is a divorce or partnership dispute occurring? Is it for a buy-sell agreement? There are many reasons why knowing the value of the business is important.
The reason for the valuation is critical. For example, in a divorce or partnership breakup, each side has a vested interest in the value of the business. If the husband is the owner, he wants as low a value as possible, while his spouse wants the highest value. The departing partner wants as high a price as possible. If an owner is selling half of his business to a partner, he or she would want as high a value as possible. In the case of a business loan, a lender values the business based on what he could sell and thus recapture the amount of the loan. This may be just the amount of the hard assets, namely fixtures and equipment, receivables, real estate, or other similar assets.
In almost all cases, with the possible exception of the loan value, the applicable value defi nition would be Fair Market Value. It is normally defi ned as: “The price at which the property would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of relevant facts.” This defi nition is used by most courts.
It is interesting that the most common defi nition of value begins with the phrase “The price...” Most business owners, when using the term “value,” really mean price. “How much can I get for it if I decide to sell?” If there are legal issues, a valuation is most likely needed. In most cases, however, what the owner is looking for is a price. Unfortunately, until the business sells there really isn’t a price.
The International Business Brokers Association (IBBA) defi nes price as “The total of all consideration passed at any time between the buyer and the seller for an ownership interest in a business enterprise which may include, but is not limited to, all remuneration for tangible and intangible assets such as furniture, equipment, supplies, inventory, working capital, non-competition agreements, employment and/ or consultation agreements, licenses, customer lists, franchise fees, assumed liabilities, stock options or stock redemptions, real estate, leases, royalties, earn-outs, and future considerations.”
In short, value is something that may have to be defended, and on which not everyone may agree. Price is very simple – it is what something is sold for. It may have been negotiated; it may be the seller’s or buyer’s perception of value and one in which their perceptions coincided (at least, once, to allow a closing to take place), or a court may have decided.
The moral here is for a business owner to be careful what he or she asks for. Do you need a valuation or do you just want to know what someone thinks your business will sell for?
Here are some items that may not increase the value of a business, but will certainly increase the price:
• Create a list of fixtures and equipment with serial numbers,
date purchased, and any amounts owed against it.
• Prepare a floor plan complete with equipment layout.
• Have copies of all copyrights, patents, special licenses, permits, etc.
• Have current financial statements --
this means the last few months, not last years.
• Make sure all leases are current and have at least five
years left. If not, extend them prior to the sale.
• If an operations manual and an employee policy and
procedure manual do not exist, create them.
It has always been the American Dream to be independent and in control of one’s own destiny. Owning your own business is the best way to meet that goal. Many people dream about owning their own business, but when it gets right down to it, they just can’t make that leap of faith that is necessary to actually owning one’s own business. Business brokers know from their experience that out of fifteen or so people who inquire about buying a business, only one will become an owner of a business.
Today’s buyer is most likely from the corporate world and well-educated, but not experienced in the business-buying process. These buyers are very number-conscious and detail-oriented. They require supporting documents for almost everything and will either use outside advisors or will do the verification themselves, but verify they will. A person who is realistic and understands that he or she can’t buy a business with a profit of millions for $10 down is probably serious. They must be able to make decisions and not depend on outside parties to do it for them. They must also have the financial resources available, have an open mind, and understand that owning one’s own business means being the proverbial chief cook and bottle washer.
Today’s buyers are usually what might be termed “event” driven. This means that the desire to own their own business is coupled with a need or reason. Maybe they have been downsized out of a job, they don’t want to be transferred, they travel too much, they see no future in their current position, etc. Many people have the desire, but not the reason. Most people don’t have the courage to quit a job and the paycheck to venture out on their own.
There are the perennial lookers. Those people who dream about owning their own business, are constantly looking, but will never leave the job to fulfill the dream. In fact, perspective business buyers who have been looking for over six months would probably fit into this category. Business brokers spend a lot of time interviewing buyers. Here are just a few of the questions they will ask. The answers they receive will determine whether or not the prospective buyer is serious and qualified.
• Why is the person considering buying a business?
• Has the person ever owned their own business?
• How long has the person been looking?
• Is the person currently employed?
• What kind of business is the person looking for?
• Is he or she flexible in the kind of business?
• What are the most important considerations?
• How much money is available?
• What is the person’s timeframe?
• Does the person’s experience match the type of business under consideration?
• Who else is involved in the purchase decision?
• Is the person’s spouse positive about owning a business?
There are other questions and considerations, but those cited above reveal the depth of a buyer interview. Business brokers want to work only with buyers who are serious about purchasing a business. They don’t want to show a business to anyone who is not qualified, which is simply a waste of their time and the seller’s time.