Certified Business Valuation: Why Would I Need One?
Selling your business can be time-consuming and expensive.
Your company requires a big investment in operating capital, and you’ll spend more money to prepare the business for sale. Hiring an expert to perform a certified business valuation is a smart investment.
These experts carry an industry credential, and the work performed in a certified business valuation is more likely to be accepted by a potential buyer, and by other stakeholders.
Valuation professionals use a number of approaches to value your business.
Here are three frequently used valuation methods:
To understand this approach, consider the balance sheet formula:
Assets less liabilities = equity
- Assets: Resources you use to produce revenue, including machinery, equipment, and vehicles.
- Liabilities: Amounts owed to other parties, including accounts payable and long-term debt.
- Equity (book value): The difference between assets and liabilities. If you were to sell all of your assets for cash, and paid off all of your liabilities, the cash remaining would be your firm’s equity.
An analyst may use the fair value of assets and liabilities to calculate business value. It’s important to include only those assets owned by the company, and not assets personally owned by the founder.
This approach calculates the value of the business based on its ability to generate cash inflows.
Using this approach, the analyst will consider the expected cash flows that the business can generate in future years. For example, a clothing retailer that is expected to generate $100,000 in cash flows over the next three years. The cash flows can be discounted to present value, using a specific discount (interest) rate.
The valuation may use other metrics, including earnings per share, to assess the value of the business.
A valuation should also consider recent sales of companies in the same industry.
This approach considers the value of similar businesses that have been sold recently. If the seller owned a furniture manufacturer, the analyst would consider the recent sales of other manufacturers in the same industry.
If buyers have recently paid three times the company revenue for furniture manufacturers, that data would impact the business valuation.
Keep in mind that a buyer may purchase the entire business, or buy specific company assets.
Equity vs. asset purchases
The valuation will be impacted by the type of purchase that the two parties negotiate.
In an equity purchase, the entire balance sheet (assets and liabilities) is sold to the buyer. The valuation would analyze the assets owned and income generated by the business as a whole.
If the parties agree to an asset purchase, the valuation will assess the specific assets sold, and the income that the assets can generate.
For example, a furniture manufacturer sells its customer list, office building, and warehouse. The seller chooses to keep certain machinery and equipment, and to use those assets in a different business. The valuation would take into account that the buyer will have to purchase machinery and equipment in order to operate.
A certified business valuation provides several benefits, particularly for privately held firms.
5 Benefits of a Certified Business Valuation
A private company’s equity does not trade on a public exchange, so market value is difficult to determine. A certified valuation provides stakeholders a reliable estimate of value.
Both buyers and sellers are more likely to accept a certified valuation. A certified review requires the analyst to follow accepted industry guidelines. As a result, the conclusions reached in the valuation may be accepted by both parties.
2. Resolve legal disputes
A court is more likely to accept a valuation from a certified expert. If business partners want to dissolve a partnership, for example, the owners may disagree on the value of the firm. If the case goes to court, a judge may rely on a certified valuation to determine the company’s value.
Many business owners agree on a business valuation formula when creating buy/sell agreements. If any owner in the business wants to sell their interest at a later date, the buy-sell agreement documents how the owner’s interest will be valued.
A certified valuation can help you resolve issues in a legal dispute, which may lower the dollar amount of legal fees your firm must pay.
3. Estate taxes and gift taxes
Several tax situations require a certified business valuation. If an owner or partner passes away, the value of the firm may be included in the owner’s gross estate. The tax preparer needs a business valuation to file the estate tax return.
If a valuation is not performed and the owner’s interest is overvalued, the estate tax liability will be overstated.
When an owner gifts a share of company stock, the transaction may generate a gift tax liability. To calculate the owner’s gift tax, the CPA needs a business valuation.
If a tax return is audited, a valuation prepared using certified valuation standards is more defensible.
4. Raising capital, merger
If a firm is raising additional capital, investors may want to review a certified valuation to assess the potential investment. A certified valuation is also useful when two firms are considering a merger.
5. Employee Stock Ownership Plans (ESOPs)
An ESOP allows company managers and other employees to set aside funds in a trust to eventually buy the business from the owner.
As KSM explains: “The Department of Labor requires that an ESOP value its shares at least annually, using the Internal Revenue Service’s (IRS) standard value of Fair Market Value (FMV). If the shares do not trade on a public exchange, the trustee sets the share price based on a recommendation from an independent third-party valuation firm.”
There are several organizations that offer a valuation credential.
Types of Credentials
- Accredited in Business Valuation (ABV): The AICPA grants this credential to CPAs and qualified valuation professionals.
- National Association of Certified Valuators and Analysts (NACVA): NACVA supports users of business valuation and financial litigation services by issuing the Certified Valuation Analyst (CVA) designation.
- American Society of Appraisers (ASA): This organization confers several credentials, including Accredited Senior Appraisal.
A certified valuation can help both parties reach an agreement, but the components of a valuation are complex. You need an expert in your corner.
Rely on a Trusted Expert
Raincatcher has the experience and professional connections to ensure that your business is valued properly. They use industry-leading proprietary valuation resources to value your business and support the proposed sale price.
Your Raincatcher business broker will be your trusted advisor throughout the sale process. Your business sale involves a group of professionals, which may include a valuation expert, accountants, an attorney, and a business broker.
Work with Raincatcher, and sell your business with confidence.