What is a business worth?
How do I know what a business is worth?
The main starting point for business owners thinking of selling their business is a valuation. Almost without exception, business owners think their business is worth much more than it really is, so a Brokers Opinion of Value helps the business owner understand the price at which the business will likely sell.
Just as importantly, it also gives me, the broker, a chance to look at the financial statements of the business to know what’s going on and ask questions a buyer will ask. That is, the question I try to answer when putting together a valuation is “What will the buyer see?” By asking this question, I can isolate the strengths and weaknesses of the business and provide an impartial view of the chances of the business actually selling as well as point out any potential deal killers a seller may not see.
Another reason to get a Brokers Opinion of Value is that the buyer will want to buy the business by trying to qualify for finance from an independent third party such as a bank or SBA lender. Since August 2008, getting an SBA loan has been very difficult. As part of the Federal stimulus plan in 2009, an allocation of money went to the SBA to try and kick start lending and the economy. However, one of the recent changes to the SBA loan program is that for a loan to get approval, it must come with a business valuation.
The law requires an independent third party to do the valuation. The SBA lender or the bank processing the SBA loan cannot provide this written valuation as the SBA wants to see a third-party appraise the business and that everything is independent and reasonable.
The basis for the valuation is the cash flow of the business with the SBA a cash flow lender. The SBA is not an ‘opportunity lender’ where an entrepreneur may say “I have the best idea since sliced bread.” That is, SBA is not in the business of assessing and evaluating new ideas, their interest is in proven business models that are generating a positive cash flow.
A further reason the SBA wants to see an appraisal is that it helps both the seller and the buyer.
n the case of the seller, it provides a reality check on the value of the business. As I said above, many sellers have an unrealistic expectation about the value of their business. This expectation comes with them into meetings with buyers and forms part of their decision making process making it difficult to bring the seller and buyer together and close the sale. A valuation helps close that expectation and it also helps when the SBA says it will provide some funding but that the seller may be required to carry a note as part of the purchase price.
For example, if the seller and buyer have agreed on a $1,000,000 purchase price for the business, the buyer brings a down payment of 20%, the SBA lender will provide 70% and the seller will carry a note for 10%. This approach to finance spreads the risk with all the parties in the transaction.
One of the extra steps I try to take is to see whether I can get a Prequalification Letter from an SBA lender. The Prequalification Letter from the SBA lender requires them to look at the financial statements of the business and decide whether the business would meet their loan requirements. The Prequalification Letter does not mean the SBA lender will approve the deal as they can only make that final decision when they know all the details of the buyer including their downpayment and management skills.
The SBA program is a great benefit to the US economy. Very few, if any, countries in the world offer a similar third party lending program for small business. Where there is no SBA program, the lending has to come from a bank or the seller, with banks generally willing to lend some money, but not take the same level of risk the SBA has been able to carry, due to its size and business model where a buyer contributes a small fee to apply for a loan.
The cost of a Brokers Opinion Of Value ranges between $500 to $750 depending on the complexity of the business. To prepare a Brokers Opinion Of Value I would need the last three years tax returns of the business as well as the current Profit and Loss Statement.
Are you thinking about selling your business? Would you like to know the value of your business? If you would like more information please visit my website Business valuation.
For more immediate help you are welcome to send an email to Andrew Rogerson or give me a call on 916 570-2674.