YOU ARE BUYING A COMPANY AND NEED BUSINESS VALUATION HELP!
Business Valuation in Canada: What Every Buyer Should Know
VALUING A BUSINESS FOR FINANCING PURPOSES
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Discover this article because it explains the key factors that influence business valuation decisions, from growth potential to management attributes, and offers practical financing solutions for your next venture
INTRODUCTION
Business valuation methods in Canada. This should NOT be a shocker to you, but whether you're buying or selling a company in Canada the ways in which you look at the business is basically the same whether you're ' buyer ' or ' seller'.., or even in a merger scenario. Resolving the selling price conundrum! Let's dig in.
WHAT IS THE BUSINESS WORTH? THE REAL VALUE OF THE BUSINESS BASED ON YOUR ANALYSIS
When we sit down with clients looking to buy or sell their business, or perhaps even acquire a franchise the proverbial question arises pretty quickly. That question from the potential buyer or seller - ‘HOW MUCH IS THE BUSINESS WORTH' when it comes to comparable businesses/ similar businesses in normal market conditions - pandemics excluded!
It's somewhat of an old saying and nevertheless, a good idea, but the reality is that the best transactions when consummated revolve around a fair price for both parties when it comes to a company's value. We love the old saying that the best deals are done when both buyer and seller feel like they didn’t get the best deal! Think about it.
So how does that whole valuation process work? And lest we forget, the taxman tends to sometimes, if not always have a vote in your deal.
2 WAYS TO LOOK AT VALUING A BUSINESS - WHAT VALUATION METHOD WORKS BEST?
The simple way to look at a valuation in the small to medium-size private company business sector in Canada is to look at the purchase price and business value of a company in two ways when assessing what the business is worth.
Assets
Going Concern / Cash Flows / Comparable Sales / Discounted cash flow method / Net Income approach
When it comes down to the assets in a business the value of those assets is key of course. And since assets are financed by banks, asset-based lenders, leasing companies, commercial finance companies, etc your ability to pin down ' true values ' is critical to an asset-based deal.
A LOOK AT APPRAISALS - APPLICABLE TO FIXED ASSETS AND REAL ESTATE
In some cases, appraisals might be required and used to determine the liquidation value in business valuations. They are needed for both financing and valuation purposes. Appraisals come in three forms -
Fair market value - the market growth based approach
Orderly liquidation value
Salvage value
Naturally, some assets are much more liquid than others. We can make the case that the receivables and inventories are of course much more liquid than physical plant assets or rolling stock, aka ' trucks'. Potential buyers want to know the value of the assets to the business. In some cases intellectual property pertaining to the firm may play a key role in valuation - that type of business often being technology-related in some manner.
While the business seller tends to focus more on fair market value because they know and believe in their business assets the seller if prudent should establish the minimum price by focusing on the liquidation value of the assets.
Accountants tend to focus on the net book value based on the seller’s presentation of financial statements. It gets a bit tricky though when you try and blend in the fact that recent profits might be down and business expenses up, and future prospects, for a variety of reasons, might be at risk.
GOING CONCERN AND CASH FLOW CONSIDERATIONS
The whole area of GOING CONCERN VALUATION around the value of your business target is the other method that presents opportunities and challenges. It focuses on a lot of time being spent on future earning power. The challenge here, as most business owners know, is that the past doesn't always represent the future! Here methods such as average earnings over a number of years are used to help in the overall bottom line valuation, as well as ' ebitda' - earnings before interest and taxes.
4 FACTORS AFFECTING THE VALUATION DECISION
What are some of the factors that affect your decision process in a going concern valuation financing for the business owner or purchaser? What amount is a buyer will to pay around certain considerations?
They might include commonly used issues such as -
1. Growth potential under new owners, management, additional financing, current business liabilities
2. Current management's positive attributes
3. Companies that aren't as subject to the economy
4. Service businesses that require smarts, not capital
FINANCING THE VALUATION
How do you finance the value of a business? Use a common-sense approach to business valuation methods whether you're buying or selling a company. Also, assess which factors might affect your ability to finance the company. Financing a purchase might include solutions such as:
GOVT BUSINESS LOANS
ASSET-BASED LENDERS
CASH FLOW LINES OF CREDIT
COMMERCIAL BANK TERM LOANS
MEZZANINE FINANCING
SOME UNCOMMON TAKES ON BUYING A BUSINESS & BUSINESS VALUATION
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Emotional Valuation: While traditional business valuation focuses on financial metrics such as discounted cash flow analysis, some argue that emotional factors can significantly impact a business's value. For instance, a company with a rich history and strong emotional attachment to a community may be worth more to a local buyer than to an outsider. This emotional valuation can be challenging to quantify but plays a real role in certain business acquisitions.
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Reverse Valuation: Instead of trying to determine a business's value before purchase, reverse valuation flips the script. In this approach, a buyer might set a price they are willing to pay based on their strategic goals and expected returns. This can lead to unconventional deals where the buyer defines the value rather than the seller.
KEY TAKEAWAYS
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Business Valuation: Understanding the fundamental principles of business valuation is essential, as business valuation determines the backbone of the entire process.
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Due Diligence: Thoroughly investigating the target company's financials, operations, and legal aspects can uncover critical insights that affect your decision.
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Cash Flow Analysis: Analyzing the historical and projected cash flows helps determine the business's sustainability and potential for growth.
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Market Research: Gaining insights into the industry and market conditions can assist in assessing the business's competitive position.
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Negotiation Skills: Effective negotiation can lead to favorable terms and pricing during the buying process.
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Risk Assessment: Identifying and mitigating potential risks within the business can prevent costly surprises post-acquisition.
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Financing Options: Exploring various financing options, such as loans, equity, or seller financing, can impact the affordability of the purchase.
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Legal Considerations: Understanding the legal intricacies of contracts, agreements, and regulatory compliance is crucial to a successful transaction.
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Exit Strategy: Having a clear exit strategy in mind before buying a business ensures a long-term vision and potential for profitable resale.
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Integration Planning: Planning how to seamlessly integrate the acquired business into your existing operations is vital for a smooth transition.
CONCLUSION
Call 7 Park Avenue Financial, a trusted, credible and experienced Canadian business financing advisor when it comes to small business valuation and financing that makes sense for your deal. Larger transactions, unlike deals for small businesses, should typically employ a professional business valuator while small business owners have numerous resources to draw upon a company valuation and financing potential around how a business operates
FAQ
What's the primary question in business valuation?
The main question revolves around determining the actual value of a business.
What are the two fundamental methods for valuing a business in Canada?
Business valuation in Canada primarily involves assessing a company's value through its assets and going concern/cash flow analysis.
How do appraisals play a role in business valuation?
Appraisals are crucial for determining asset values and come in forms like fair market value, orderly liquidation value, and salvage value.
What factors influence the decision-making process in business valuation?
Factors such as growth potential, management attributes, economic resilience, and capital requirements affect the valuation decision.
How can you finance the purchase of a business?
Financing options include government business loans, bank term loans, asset-based lenders, cash flow lines of credit, commercial bank term loans, and mezzanine financing.
Can I trust traditional business valuation methods?
Some argue that traditional methods may not account for intangible assets, making them less reliable in today's fast-paced business world.
How do I find a trustworthy business financing advisor in Canada?
Seek out a reputable and experienced Canadian business financing advisor to navigate small business valuation and financing effectively.
Are the valuation principles the same for large and small businesses?
While principles remain similar, larger transactions often involve professional business valuators, unlike small business deals.
Can a clear exit strategy enhance the value of a business purchase?
Yes, having a well-defined exit strategy can increase the long-term potential and resale value of a business.
What is a business appraisal?
A business appraisal, also known as a business valuation, is the process of determining the economic value or worth of a business entity. It involves assessing various factors, including the company's financial statements, tangible assets and intangible assets, liabilities, cash flow, market conditions, and industry trends. Business appraisals are typically conducted by professionals such as a chartered business valuator, and serve various purposes, such as helping business owners understand their company's value, the business's cash flow , facilitating mergers and acquisitions, resolving disputes, or determining fair market value for taxation purposes.
What is Business Due Diligence?
Business due diligence is a comprehensive investigation and analysis process that potential buyers or investors undertake before acquiring or investing in a business that might sometimes be sourced by a business broker.
It involves reviewing the company's financial records, operations, legal contracts, customer relationships, employee agreements, and other relevant information. The goal of due diligence is to uncover any potential risks, liabilities, or issues associated with the business that might impact the decision to proceed with the transaction. It helps buyers make informed decisions and negotiate favourable terms while minimizing unforeseen surprises.
What is an industry-specific business valuation?
Industry-specific business valuation is a specialized approach to determining the value of a business within a particular industry or sector. Unlike generic valuation methods, industry-specific valuation considers unique factors and trends that are specific to the business's industry. These factors may include industry-specific financial metrics, growth rates, competitive landscape, regulatory considerations, and market conditions. This approach ensures that the valuation takes into account the industry's nuances, allowing for a more accurate assessment of the business's worth in its specific market context.
Gaining a solid understanding of a specific industry is paramount for both prospective buyers and sellers. To instill confidence in buyers considering an acquisition, it's imperative that they become well-informed, perhaps even experts, in the industry related to the business they are eyeing. On the flip side, sellers can benefit significantly from a profound grasp of their industry's dynamics, enabling them to arrive at a well-informed valuation that accurately reflects their business's assets within the current market context.
As previously mentioned, the valuation of a business hinges on several factors, with the industry's strength being a crucial determinant. Consequently, sellers should embark on a quest to unearth as much information as possible about companies akin to their own in terms of size, business model, and revenue, assuming such data is accessible.
These analogous businesses are often referred to as "comparables" or "comps" and can serve as guiding beacons within the marketplace, furnishing valuable insights into the sector's nuances.
Acquainting yourself with peer companies will also facilitate an assessment of your market share and growth potential, enabling you to showcase to potential buyers the distinctive attributes that set your business apart.
Buyers can also examine publicly traded companies, annual and quarterly financial reports are generally readily available online. Depending on the extent of corporate transparency, they may even be able to glean insights into the selling prices of comparable businesses in the industry.
