Business valuations are a crucial aspect of effective planning, as they provide insights into the worth of your business to potential buyers. Despite their apparent simplicity, the significance of business valuations can be misunderstood even by the most intelligent and accomplished business owners.
In essence, business valuations serve two primary purposes. Firstly, they inform you whether you can presently sell or transfer your ownership to attain financial independence. Secondly, and of greater significance, they reveal the extent of additional effort required to enhance your business’s value and achieve that coveted financial independence.
Achieving financial independence is the paramount objective when planning for your business’s future. While other objectives hold importance, a successful Exit Plan inherently necessitates providing financial independence. Given that your business is likely your most valuable asset, it plays a substantial role in attaining this financial independence. Understanding its value and the necessary steps to increase it commonly forms the foundation of a successful long-term plan, whether your intention is to exit the business or retain it indefinitely.
Let’s consider the tale of Luca Montez, a business owner who made some common blunders regarding business valuations and how these missteps impacted his planning.
Luca Montez had been the proprietor of MontezCo, a widget company, for 35 years, and his pivotal role had been instrumental in the company’s success. When he learned that his friend and fellow competitor, Julia Deming, had successfully sold her business for $6 million, Luca began contemplating his own retirement. He assumed that his business was comparable to Julia’s and that he could fetch a similar sum.
Julia offered to connect him with the advisors who had guided her, but Luca politely declined, believing their services would be too expensive. He was convinced he already knew the value of his business and could manage the process himself.
Luca decided to list his business for sale but received offers significantly lower than Julia’s, with the highest reaching only $2 million. This discrepancy left him frustrated, leading him to seek assistance from Julia’s advisors.
During his meetings with the Advisor Team, Luca vented his frustrations, questioning why he couldn’t achieve the same $6 million value as Julia, if not more.
After several discussions and thorough inquiries, Luca reluctantly agreed to undergo a proper business valuation. He had been resistant to this step, believing his company’s value was on par with Julia’s and unwilling to pay for an expensive “opinion of value.” Instead, his advisors suggested a more cost-effective “calculation of value” conducted by a business valuation specialist.
The calculation of value process revealed that Luca’s business was presently worth $2 million, aligning with the offers he had received. The specialist highlighted three significant weaknesses:
- Overreliance on Luca for cash flow.
- Heavy dependence on three major customers, who represented 80% of MontezCo’s annual sales.
- Lack of a management team capable of running the company without Luca, making it necessary for a buyer to retain Luca’s involvement for several years or provide their own management team.
Armed with this knowledge, Luca and his Advisor Team recognized the need for action. They initiated the development of a higher-level management structure, reducing the business’s dependence on Luca. They also diversified MontezCo’s customer base. Over time, Luca introduced incentive plans to retain key managers, with guidance from his advisors. Although it was a multi-year endeavor, Luca succeeded in enhancing his company’s value and achieving the desired $6 million valuation.
Business valuations offer valuable insights into various aspects of your business’s future. Most importantly, they provide a financial snapshot that guides you in determining the necessary steps to reach your desired destination.
If you wish to explore strategies for positioning yourself to attain financial independence through your business, please don’t hesitate to contact us today.