Do you know the value of your business? When I asked this question to business owners in attendance at a presentation I recently delivered, I was not surprised that the majority were uncertain. Why should they care about value? No one ever asks for it. Banks, shareholders and government agencies never require business owners to disclose what their company is worth.
In reality, though, there are a lot of different stakeholders valuing your business every day, such as your employees, other banks, investors and customers. I would venture to guess that that alone should be a good enough reason to care about value.
What Buyers Look for in a Business
I recently found myself watching NBC’s "Shark Tank," where aspiring entrepreneurs pitch their business concepts and products to a panel of business moguls who have the cash and the know-how to make it happen. Hands down, the fastest way to get thrown out of the tank is to have an unrealistic valuation of your business.
So, think about it this way: If you had your eye on an acquisition, what would you look for? Putting yourself in the buyer's shoes is a great exercise to temper valuation expectations. I bet you would be looking for things like a diversified customer base, a systematic way of generating recurring revenue, barriers to entry from competitors and high margins, to name a few. So, be honest: Does your company have these characteristics?
Great Companies Drive Value
If building a company was a sport, the value of the company would be how we keep score. Jim Collins, author of Good to Great, identified elite companies that have made the leap from good to great. Companies that make the leap were defined as meeting the following criteria:
- 15-year cumulative stock returns at or below the general stock market;
- Followed by a transition point;
- Then cumulative returns of at least three times the market value over the next 15 years.
What this suggests is that measuring corporate value is a key tool in tracking a company’s transition from good to great.
The Benefits of Regularly Updated Business Valuations
For me, the same question always comes to mind: Why haven’t valuations become more commonly adopted as a strategic planning tool for private businesses? Every year, companies engage accounting firms to audit, review or compile their books. This requirement is driven by banks, tax authorities and others that require financial statements verified by an independent third party. I truly believe that an annual valuation would provide most business owners with more insight into their company than audited financial statements.
As I see it, the benefits of using periodic business valuations as a strategic planning tool are:
- Business valuation provides business owners with a quantitative measure of the corporate value created through the execution of a strategic plan.
- Frequent business valuations will give owners a better understanding of which financial levers they can pull to drive the value of their business.
- Like in "Shark Tank," knowing the value of the business gives owners increased credibility with potential investors and lenders.
Better Valuation Advice
In my opinion, even current valuation standards need to be re-tooled. The derivation of business value has become a mathematical exercise that fails to comment on how M&A deals are consummated in the existing market environment.
Here are my thoughts on what a comprehensive business valuation should include:
- Digs deeper into key market and operational value drivers of the business, rather than just based primarily on financial information;
- Explores options on how to increase value and identifies factors that can impact salability;
- Sets a benchmark and provides a comparison to where the business owner wants to be, with respect to their financial objectives;
- Provides a clear understanding of strengths and weaknesses in the business from a prospective buyer's position, plus recommendations on how to improve;
- Presents the most realistic exit options available to shareholders;
- Illustrates how a potential M&A transaction would be structured and financed; and
- Provides constant monitoring and measurement of value to help business owners achieve wealth creation goals. Determining the value of the business is just the beginning.
So, my question to you, private business owner, is a crucial one: How can you know if you are moving toward greatness if you don’t know or frequently measure the worth of your business?