You will find a variety of different organizations that sponsor valuation experts of all stripes. Some will have many capital letters after their names but may not yet have acquired substantial experience in the marketplace on a practical level.
Some will be able to deal with the numbers but will fail to explain what it is they’re doing or how they’re doing it. If you can’t understand the method they’ve used, the valuation will have little significance for you. And, don’t forget: You’re the person who counts.
Many people think the dollar value of the business is the keynote. The fact is that many people want a valuation, not because they want to sell the business but because they would like to know how the valuation works. In this way, they can figure out how to improve the business before they decide to sell, which, in the long term, will inevitably increase the price for which it will ultimately sell.
The basic concept of value consideration is an examination of the numbers. If you take the sales of a business and deduct essentially all the costs needed to achieve those sales, you will have, hopefully, a profit. Although it is clear that the profit represents the basic foundation of the business’ value, the real key is the risk that the purchase of the business represents to the buyer.
If the business depends on the relationship with the seller’s brother-in-law, the buyer is certainly vulnerable to that relationship not being maintained after the sale. The diversity of clientele, the number of customers on which the business depends, is a key to spreading the risk. The ability of the business to continue buying its raw materials or component parts is another key risk factor. If the source of the materials is likely to dry up or not be as readily available or be priced differently than the price previously paid, the risk to the buyer is great.
These are the kinds of risks that need to be examined, aside the valuation of the business based on profit alone. And what about the key personnel who may decide to leave the business immediately after the sale? Do you think the buyer would end up with a risk not anticipated? And what about the obsolescence of equipment or innovations in equipment not disclosed to the buyer? Is this yet another risk that might not be obvious to the buyer … but should it be?
It’s true that it may be less expensive to buy an existing business than to start a competitive business from scratch. Keep in mind, however, that whatever your experience in a given trade or industry, there are those who understand the risk factors in business generally much better than you. Don’t think that your industry experience will suffice as an examination of a business you intend to buy. Buying a business is a business of its own. It requires an understanding of business basics and the subtleties involved in the transfer of a business from one person to another. It is not necessarily complex but it is mired in details of all kinds, many of which the average business person has never dealt with.
It is not necessary or even appropriate to be concerned about your competition. The better word is to be aware of your competition. You need to know the product they sell or the service they offer if it is similar to your own. You need to know the price they charge and the values added to their product or service. This is the only way to know where you stand with your potential customers relative to the comparative price structure at which you offer your goods or services.
If you are offering less in terms of value, you might sell more by making your price more competitive. If you are offering more in terms of value, you might sell fewer but have a margin that allows you to prosper on that basis. If you’re offering the same value at the same price, you might depend on your location as the key to maintaining success in your marketplace.
Be careful that you understand these differences and that you are fully prepared to participate on a competitive level.