Business Valuation Made Simple

Whatever your next strategic move; exit, growth (organic or acquisitive), the ability to value a business is crucial. The process is complex and you should take advice before committing, however, having a grasp of the basics is a must for any company owner.

Most common problems in conducting a business valuation are; Failure to understand and follow professional standards, Failure to adequately understand the subject company, Failure to obtain and document the search for sufficient relevant information, Failure to apply the right standard of value, Failure to properly select and apply relevant valuation methods, Dwelling on the results to the detriment of the details, Failure to objectively review the valuation conclusion.

You may have started your research into valuations, and the information you are likely to find is created by people exposed daily to business finance, accounting or a similar fields. It can be filled with jargon and hard to understand. This article aims to explain a practical valuation method, removing the complexities and making the principles simple and easy to understand.

Different advisers will use a variety of techniques to value your business. These can include; industry specific formulas, discount cash flow forecasts, dividend formulas and profit multiples.

One of the most simple and effective ways to value a business is to use the multiple of one year’s adjusted profits. Basically in this principle, a multiple is the number of years a buyer considers it acceptable to generate a payback on investment. This will typically include the balance sheet and enterprise value with surplus cash and freeholds extracted from the value.

Generally, the bigger the business the higher the multiple, however, the multiple can be influenced by various factors which must be considered when calculating the “most likely” value. This can change depending on the business or industry in which it operates. For example; if a business is in a strong position, in a highly desirable sector or has strong recurring revenue the multiple may be higher.

The adjusted profit figure is typically based on the most recent year’s performance, or in some cases where strong growth is shown, the current profit run rate. Profit is adjusted to obtain the net profit to a buyer, rather than the one the current owner may have achieved. Adjustments can include directors’ salaries, extraordinary expenses and/or costs for replacing outgoing directors. Buyer economies of scale and cross selling opportunities may also be considered, although this is more subjective and often down to negotiation. The two are multiplied together to calculate the value.

Multiple x Adjusted Maintainable Profit Per Annum Pre Tax = Valuation

When exiting your business, an merger and acquisition adviser will do their utmost to increase your value by examining your business strategy, leverage the business sale process, creating a competitive environment and ensure the deal value and structure are aligned to your goals.

This brief overview of business valuations is just a tip of an iceberg of the complexities involved, enabling you to make an informed decision before speaking to an adviser. If you would like a more in-depth understanding of business valuations please speak to us about your objectives, please call       +254 723 98 25 28 or email victor@viffaconsult.co.ke