Is Your Business Priced to Sell
Published : 29 November 2018
Not if the price reflects that it is more valuable to you, the seller, than it is to the market.
A business valuation can provide many things including how much you have to pay in stamp duty when you move it from one entity to another; how much you have to pay your spouse when he or she ceases being your spouse and you have to divide the assets according to a court order; and how much your business partner has to be paid out in order to remove him or her from having any future interest in a business.
The job of a business broker is mostly unrelated to any of the above. That is not to say that a business broker does not receive training in those areas. It’s just that a business broker generally contends with the ‘market value’ of a business rather than the many other types of purpose for valuation.
Estimating a market value revolves around the following simple concept:
Market Value is the estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm’s length transaction, after proper marketing and where the parties had each acted knowledgeably, prudently and without compulsion.
One of the many inherent strengths of a business broker is their proximity to the market. They are in a position to be in tune with the dynamic nature of the market and this helps them in their assessment of a realistic price for a business.
The particular value a business broker is most interested in and are searching for is the one whereby they are able to convert their clients (sellers) business into cash.
If a business is not transacting there can be various reasons.
There is a notion often repeated among market participants that every asset has a price. One of the reasons that an asset is not transacting is that the value to the owner surpasses the price that the market is prepared to put on it.
One reason for this is that there tends to be an asymmetric balance of information about the business between the buyer and the seller. The seller is usually intimately familiar with the business compared to the buyer. This means that the risk is fundamentally lower for the seller than for the buyer and as a result it is valued more highly by the seller. It is the illiquid nature of businesses that causes this.
There are transaction costs in selling a business that may impact on the sellers preparedness to accept an offer on the business that would otherwise seem market based. These include capital gains tax ramifications, contingent liabilities associated with employees such as long service leave, holiday pay and sick leave that are adjusted at settlement.
Legal costs and brokering costs are other influences that impact on a sellers willingness to sell. Although they generally do not change the market value of the business they need to be taken into account when the adjustments occur upon settlement of a business sale.
There is also an intrinsic value to a business that can make it diverge from a market value. An intuitive way to understand is to compare it to currency and think of it as a commodity. When dollars are in abundance they have a lower intrinsic value than when they are scarce. The person clutching onto their last dollar will treat it with a different level of deference to someone sitting on a pile of them.
I first learned this during my university days in Cambridge when I had a pound coin and I discovered that I could buy a McDonald’s hamburger with it to assuage my dinner time hunger compared to the next day when I received a stack of them and treated myself to a breakfast in a café. Eggs, bacon, sausages, toast, coffee, condiments n all. That was a long time ago.
The intrinsic value of a pound coin plummeted from extreme to trivial without stopping at market value even for a moment.
Businesses are the same. Although they can be intimately tied up with the persona of the owner, the best chance of obtaining their market value is to commodify them and then with proper marketing, find a buyer who can set about possessing sufficient knowledge to make a prudent decision to make an offer on the business without the need for compulsion.
The knowledge most sought after are standardised accounts showing the profitability of the business and other information that allows a buyer to assess the risks of the business.
A business broker plays an important role in this. After all, one of the claimed origins of the word broker is from an Old French verb ‘brochier’ meaning to broach (a keg for instance). How apt.