Business valuation refers to calculating the owner’s interest value using set methodologies and predetermined formulas. One best tool to help determine the value of your business is the business valuation calculator.
Business value means different things to different individuals. It explains why business valuations are just value opinions. Business valuation is also essential for several business owners capable of influencing their decision regarding selling, continuing, or adjourning a project.
Business valuation is capable of steering proposition in any direction, and it is evaluated for the reasons below:
· Estate planning
· Selling or buying of a portion of the entire business
· Partnership or corporate dissolution
· Creating values of a top-quality estate
There is an ongoing assessment of the business operating across the world. Regardless of the business size, they must be all valued at one point. However, just like any other process, some mistakes can arise during the business valuation process, causing lots of harm to your business. In this piece, we will be looking at some of the common mistakes people need to avoid during the business valuation process.
1. Selecting the Wrong Business Value Type
The results of business valuation depend on the type of value that is being measured. Fair market value is the most common value standard used in most business appraisals. Most of the business valuations are being done under-investment value standards.
This is when the business is valued for attracting outside investment, big corporate acquirers, or a legal dispute. The type of assumptions made together with the business valuation results under diverse value standards can differ.
2. Measuring the Value of Business Against Accounting Profits Instead of the Flow of Cash
The business’s value depends on its earning power, while most businesses earning direct power measures are cash flow and not net profit.
It would help if you used Net Cash Flow or the Seller’s Discretionary Cash Flow as an earning basis. You can also consider estimating all these by recasting the balance sheet and income statement of the company.
3. Assuming that All the Established Businesses Come with a Positive Goodwill
You might have come across this business value as it is the total of a business’s goodwill and tangible assets. However, remember that the business’s goodwill is related directly to the earning power of the business.
The business’s goodwill exists if a business can generate earnings over and above its tangible assets.
When a business’s earning falls below the appropriate return on assets, you will always have negative goodwill on your business. The popular Capitalized Excess Earnings method will help you measure a business’s goodwill and the total business value straight from the business’s asset base and earnings.
4. Using Wrong Valuation Multiples
This is a common reason why most business valuations go wrong. Several valuation multiples are used in estimating the worth of a business. Each does relate to a particular financial performance measure to the potential selling price of a business.
Ensure that you always use caution whenever you are applying to the valuation multiples.
5. Leaving Significant Liabilities and Assets from Business Valuation
The majority of small business transfers are usually carried out as asset sales. The seller will pay off business liabilities and retain the accounts receivable together with cash.
The typical market-derived pricing multiples depend on the assumption of an asset sale. When using such pricing multiples, ensure to account for all the liabilities and assets.
The buyer’s extra assets will help increase the business’s value, while any liabilities that are assumed will reduce the business’s worth.
6. Failing to Assess the Specific Risk of Your Company
Assessment of risk is an essential factor when it comes to business valuation. Using discount rates or capitalization that does not account for its specific risk profile can easily lead to erroneous results.
For example, Microsoft Inc. did trade $86.35 back on January 3, 2018. The total outstanding shares were 7.715 billion. It meant that the company could be valued at $86.35 x 7.715 billion = $666.19 billion.
Every firm does have several operational and financial factors that contribute to the risk profile. This explains why the cap and discount rates are unique to the company.
7. Assuming Business Project Costs and Purchase Price are the Same
When you value the business to purchase or sell it, never forget to make essential adjustments. The buyer will have to inject enough working capital. In the sale of an asset, this will be above the purchase price.