A question we regularly receive from both clients and non-clients is on the value of their business. The value of a business gets down to what the business has to sell. Most SME (small-to medium-sized) businesses will be selling two types of assets: tangible and intangible.
The tangible assets normally include stock and fixed assets. Intangible assets represent the non-physical items a business owns that generate income and provide a competitive advantage. Some intangible assets can be legally transferred to a purchaser such as a franchise, lease or patent. Others cannot and include a trained work force and key customer relationships.
When valuing a business, it is important to put “your feet in the shoes of a purchaser”. To gain confidence that the business has value, a purchaser will carry out due diligence and consider the following:
- Financial Information. Having up-to-date financial data provides one aspect of value, i.e. the historic financial performance of the business. What financial statements do not provide is the business drivers and its operating core.
- Key Employees. Are there key employees/contractors crucial to the business’ success? If they left could they be replaced or will the customer base follow that key employee?
- Products and Services. Are there specific supplier arrangements or contracts? Is there legislative compliance? Are technology changes occurring that could change the business model? Can cheap imported products replace NZ-made goods?
- Premises. How key is the premise’s location, and is the lease secure or can the business be easily relocated and amalgamated with another business?
- Plant & Equipment. The quality, capacity and technology status of plant and equipment can have real implications on competitiveness.
- Marketing. What marketing collateral does the business have including internet, data base, direct mail etc.
Understanding the real business drivers and operations will either moderate or enhance a business’s value. For smaller family-owned businesses, on average about 70% of the selling value is attributed to intangible assets known as goodwill. Using the future maintainable profit of a business is the common method of calculating the goodwill value of a business.
Business owners should constantly be “grooming” or preparing their businesses for sale. Sustainable healthy profits and attending to all the non-financial business elements will enhance business value.
To demystify the “dark art” of business valuation, I would recommend contacting either a chartered accountant or business broker experienced in business valuations.