3 Common Business Valuation Mistakes

Selling a Small Business - Some Common and Scary Business Valuation Mistakes

There is a great deal of confusion when valuing a business and business sellers tend to make the same mistakes. The startling fact is that unfortunately, so-called professionals often repeatedly make these same mistakes.

Mistake # 1 – Applying a ‘one size fits all’ rule of thumb when valuing a business

For example, multiples of profit, multiples of rent rolls or percentages of revenue etc.


While a one-size fits all appraisal method is simple, unfortunately it does not result in accurate business valuations.

A study of the actual sale prices of 5000 small businesses showed the sale price/cash earnings multiple ranged from 0.1 times the earnings with a median of 1.75 times the earnings.

Therefore, it is apparent that applying the average or median ratio as a one size fits all multiplier produces misleading and unfair results, particularly to the better businesses.

Mistake # 2 – Using Contrived Methods when valuing a business

For example, Super Profit - This is one of the more unusual (silly?) appraisal methods, where the method assumes that different parts of the investment in a business have difference levels of risk. Hence, should return differnent rates of returns on the investment.

For example - The plant and equipment in a small business is far less risky than the cash flow.

In reality, when a small business goes under, all business assets lose substantial value - nothing is
protected.

The engine room and fittings of the Titanic were subject to the exact same voyage risk as the
rest of the ship!

Contrived methods were first used in the US in the early 1920's when American lawyers had trouble understanding discounted cash flow. The concept of 'super profit', while having an illogical grounding, was easily understood by lawyers and judges, and was used until fairly recently to settle equity cases - SCARY!

Mistake #3 - Neglecting To Include WIP (Work In Progress) In Business Valuations

It is quite amazing how even people who should know better often overlook WIP when valuing
a business.

WIP is a key element of the business value in both professional practices and contracting
companies. In these environments, there is usually valuable work in progress still to be
invoiced.

We recall an instance in Australia where a major public company sold its contracting and
engineering business and its appraisal overlooked a substantial amount of WIP in the business.
In effect, the lucky (canny?) buyer recouped the purchase price in less than 3 months.
Essentially, the WIP the buyer got free was invoiced and paid - WHOOPS!

7 Things To Ask Yourself Before You Sell Your Small Business

"7 Things to Ask Yourself Before Selling Your Small Business"

Selling your own business is as crucial a business decision as starting, operating, or expanding one.

Aside from investing your resources, time, and effort, it has become a big part of your life and leaving it may have some emotional repercussions if you don't carefully plan for such an eventuality.

On a happier note, if you do make a conscious effort to map out a desirable plan, you are sure to end up  satisfied and fulfilled as you go through the next phase of your life, be it retirement or an entirely new business venture.

The process of selling your own business can be tedious and complex.  There are questions you should ask yourself for which you should find answers.

It is critical that at this point you should give yourself sufficient time to ponder specific questions if you are to achieve your desired outcome.

Here are 7 questions to get you started…

#1 - Why Am I Selling My Business?

The reasons for selling are varied, such as:

• New business undertaking
• Change of career
• Emigration
• Retirement
• Health concerns
• Family issues
• Business failure
• Economic down trend and alike

It is essential that you examine the real reasons why you want to sell your business - because this will become part of the basis to determine the other processes necessary for the sale.  For instance, if your reason is business failure or bad economy, you may not be able to command a good price and it would be best to postpone the sale.

#2 - How Prepared Am I To Sell My Small Business?
The preparation phase entails various processes.
After making a final decision to sell, the key areas and the entire work force of your business should be informed in a discreet and professional manner to avoid speculation and panic amongst the ranks.
Accurate and updated financial records of the business should thereafter be made ready – make an appointment with a Business Accountant.

A complete inventory of all the business' assets, especially the tangible ones, should be undertaken and a thorough review of existing systems and procedures completed.

Other documents that can be prepared at a later time are:

• Information Memorandum containing complete information about your business
• Confidentiality Agreement to prevent information leakage, and
• Letter of Intent embodying the buyers willingness to buy after agreeing with the terms of the sale 

#3 – How Much Is My Business Worth?

While a business can be valued in different ways…


…YOU, as the owner, are in the best position to give an honest and true valuation of your business.

After examining your books of accounts, reviewing the systems and procedures in place, consider your intangible assets, and assess the overall economic environment to include industry performance and competition.

You are now ready to give yourself a tag price that will suit your purpose.

#4 – When Is The Right Time To Sell My Business?

Proper timing is paramount when selling your own business, but there is no hard-and-fast rule as to when timing is right.
Depending on your motives for selling, anytime may be the right time…

…For instance, if maximization of price is your aim, a period of economic recession or depression is definitely not the right time.

If you are seriously thinking of retirement due to age or health, now is probably the right time - And so on.

#5 – Who Can I Sell To?

As you may or may not have noticed, demand for Small Businesses has increased considerably due to recent economic times, so most well prepared business owners can afford to be picky when it comes to who they sell their business to.

Your own family members, friends, customers, suppliers, and employees can be your first prospective buyers.  Even your colleagues and competitors in the industry may be interested given the right perspective.

The public at large is of course your biggest market, but you will need extra efforts and time to reach to them.

#6 – How Do I Sell My Business?

The process of selling has greatly evolved with the advent of the computer.  Reaching out to people far beyond your local area has been made easy with the click of a button or mouse…

…Selling your business through the web is the first option - It allows you to be seen by millions of readers and can be FREE!

Print advertising in newspapers, magazines, bill boards, or posters are good to do in conjuction with the web for maximum exposure.

#7 – Will I Be Happy When I Sell My Business?

Given the right price at the right time at the right place to the right buyer…do you think you will be happy in the end?

...I certainly hope so :-)