Valuing your company gives you insights into the strengths and weaknesses of the business.
September 9, 2018 5 min read
Opinions expressed by Entrepreneur contributors are their own.
There are many reasons why having your business valued makes sense; whether it is to inform sale price negotiations, your financial planning or even succession planning. But one, often underestimated outcome of the process is that it can act as an accelerator for enhancing the value of the business itself by enabling it to make better-informed decisions, helping to ensure that it has the right debt structure and identifying areas of strength and weakness which can then be addressed or enhanced.
The process of a business valuation can lead to a more forensic understanding of your business. It can highlight areas where revenues can be improved and expenses reduced, resulting in higher profits and improved cash flow. Equally, better knowledge means less uncertainty, and less uncertainty in business minimizes a company’s risk profile. These two outcomes — higher profits and cash flow, combined with reduced risk — in time equals higher business value.
A valuation isn’t a simple profit and loss “snapshot”; it is a question of the company’s sustained profile over time. Therefore, a valuation can act as a health check; identifying areas of both strength and weakness in the business that can inform strategic planning moving forwards, ultimately enhancing the business’ overall value.
A weakness could be identified simply as an area where the business is not performing at its optimum potential, where, for example, operational costs could be reduced or workforce productivity or effectiveness of sales and marketing functions enhanced. A weakness could equally be an area where the company is losing value, for example through poorly managed inventories or customer attrition.
As well as identifying areas for improvement, the valuation process will help to determine what is driving value in your business, so that those areas can be emphasized and enhanced to unlock further growth and value. Value drivers can be defined as things that have a significant impact on the performance of your specific business. They can come in many forms such as cutting edge technology, brand recognition, human capital or customer diversity. A regular business valuation can help companies to monitor the health of its value drivers to ensure that they are operationally optimal.
A valuation also offers the opportunity to consider and manage your company’s risk profile. Valuation is not about determining what a company is worth in your hands, but instead its transferable value.
For small and medium-sized businesses, something which is regarded as a value driver by the business owner can represent risk to potential investors or even the business itself. For example, a company’s client base is often regarded as a value driver. It may have deep client relationships, which have taken years to cultivate. However, if 40 percent of a company’s revenue is derived from one client, or if the relationship exists purely with the business owner, then, from a valuation point of view, it represents as much risk as it does return. The more diverse a company’s client base, the more value it attracts. A diverse client base, even across industries, can help to protect a business and therefore enhance its value. By flagging these areas of “risk,” a business valuation process can help a company to minimize its risk profile and maximize its potential value.
Taking on debt can be a risk, but again, one that can be managed and minimized by knowing the true value of your business. This is because the value of the business determines the “cost” of the new capital. A company which is overvalued can over-leverage itself with debt, increasing its risk of failure. Valuation then can help companies to achieve an appropriate debt structure.
If you are considering having your business valued, there are some simple steps that you should follow to ensure the best possible valuation: Undertake a due diligence health check, maintain a healthy cash flow for several months in advance of the valuation, address any financial irregularities that may exist in the business and have all the accounting records present and correct.
Having ensured that the business is in the best possible state pre-valuation, entrepreneurs may wish to inform themselves more broadly by talking to their financial advisor, getting advice from an accountant or broker — mainly if the valuation is a step toward selling the business — and researching valuations of similar businesses.
To be credible, valuations must be undertaken by impartial third parties. Today, business owners have the choice of whether to undergo an online or offline valuation. Offline or traditional business valuation, however, was not built with the business owner in mind. It is slow, highly intrusive and worst of all, expensive. With today’s technology business owners can gather an accurate understanding of what their business is worth online in a matter of minutes.
Such online tools are democratizing business valuation by making them cheaper and quicker to attain — a desirable outcome given that a valuation can ultimately enhance the value of a business.