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Value Creation Blog

Do You Know How to Value Your Business

Posted by Josh Patrick

If you’re like most business owners I’ve run across and you’re being honest with yourself, the answer would be a resounding no.

It’s not that you don’t have the ability. It’s probably because you’ve really never thought about what goes into valuing your business.

You might have just a little bit of hope that someone is going to pay you far more for your business than your business is worth.

Your business is always more valuable to you than anyone else.

This is something that’s always true. The value of your business to you is the cash flow that it produces. An operating business is always worth more to the owner than the proceeds of the business after selling.

If you’re business produces $200,000 of cash flow you will be lucky to get $1,000,000 for the business and that’s before taxes!

Think about this…..it’s almost impossible for you to get $200,000 per year out of a $1,000,000 investment. And that’s not even the worse news you’re going to read.

If you think that you’re going to walk away with the same cash flow after you sell your business as you’re enjoying now, think again. It’s just not going to happen.

Understand what someone else is buying.

Buyers will tell you all sorts of things. Some will tell you that you’re more valuable than the business. Some will tell you that they just love what you’ve created and they can’t duplicate it, so they’ll just buy what you know.

There are all sorts of stories that buyers tell. It’s rare that any of them are true. If a buyer is being honest with you, what they’re buying is your cash flow. It’s not just cash flow they want, it’s recurring cash flow they’re after.

If your business doesn’t have recurring cash flow, there’s a pretty good chance you’re not going to get very much for your business.

Remember that five times cash flow number I talked about above. Forget getting even close to that if your business doesn’t have a great recurring revenue model.

In my experience, the only thing a buyer is really interested in is recurring cash flow. Anything else that comes out of the buyers’ mouth is pure fluff.

If you were buying a business would you pay what you’re asking?

This is one of my favorite questions to sellers who think their business is worth a ton of money. Anyone who buys your business is going to have to pay for the business.

A buyer isn’t interested in using their own cash to buy your business. They’re only interested in using the cash that the business creates to pay for the business they’re about to buy. No matter what a buyer tells you, this is the truth.

I want you to look at what you’re asking for your business. I want you to be honest and figure out how you would pay for the business if you were buying it. If you can’t come up with a really good answer, there’s an excellent chance you think your business is worth more than a buyer would pay.

Know who your buyer is

Private businesses have a really wide range of values. Let’s go back to the business that has $200,000 in cash flow.

One buyer might be willing to pay $600,000 for the business and another might be willing to pay $1,400,000 for the business. It all depends who the buyer is and the reason they’re buying your business.

A financial buyer will likely be willing to pay you the lower number and a strategic buyer who can fold your operation into theirs might be willing to pay you the higher number. Well before you start the sales process think about who would buy your business. It’ll make you be a better seller.

Remember taxes and fees

You’re going to lose a lot of money to taxes and fees when you sell your business.Let’s start with taxes. The best tax situation is to sell the stock in your company. In this situation your tax rate would be about 20% plus whatever state taxes you have. The worst case would be if you sold your C Corporation as an asset sale. In that case you could lose almost 60% to taxes.

That’s not even the beginning of what it’s going to cost to sell your business. If you have an investment banker or a business broker work with you, they’ll take as much as 10% of your sale. Then, you’ll have lawyers and accounts to pay as they help you put together your transaction.

I think a safe number to think about when you sell your business is that you’ll lose close to 50% between taxes, fees and professional services. Remember, the $1,000,000 you thought you would get for your business, now cut that in half because you’re going to be left with about $500,000 after taxes and fees. Is that going to get you to a comfortable retirement?

Put together a plan before it’s too late

The key here is to realize that your business is only going to be a part of your retirement nest egg. There’s a very good chance you’re going to need more than just the proceeds from the sale of your business.

I strongly encourage you to do a financial plan and see where you stand well before you think about leaving your business. The earlier you start, the better chance you’re going to have of leaving your business and someday stop working.

Let me know what you think. Click here and let me know what you’ve done about being realistic when it comes to leaving your business.

How to leave your business in style

Topics: retirement planning

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