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Sell a Business – Get The Right Valuation – No Hockey Sticks

As you consider transitioning your business? Whether through a sale, passing it down to family, or structuring an Employee Stock Ownership Plan (ESOP) for employees—begin with clarity. Having a clear understanding of your company’s real value. Many business owners, perhaps including you, have historically minimized reported earnings to reduce tax burdens. This common strategy of tax minimization, while providing short-term financial relief, presents significant challenges during the business valuation process when you decide to sell.

Show Your Profit on the Books

Like many business owners, you’ve likely managed your financial statements to show minimal profit. This is often done in alignment with strategic tax planning advised by professional accountants. This practice, while common and perfectly legal, typically results in a lower net operating income being reported on your tax returns. This strategic financial management might serve you well during operational years. But it can significantly complicate the valuation of your business when you’re ready to transition.

What is Normalization? Show me the money!

When you engage a Legacy Business Transition Advisor, an M&A advisor, or a business broker, one of the first steps they will introduce is a process called ‘normalization.’ This essential step adjusts your financials to reflect the true profitability of your business, which is critical for accurate valuation.

Normalization involves adding back discretionary expenses such as an owner’s salary, perks provided to non-working family members, and non-cash expenses like depreciation and amortization. This adjustment gives a clearer picture of the financial health of your business, making it more attractive and understandable to potential buyers.

An Example

However, it’s not uncommon for some business owners to demonstrate their financial attractiveness in the short term as they prepare for a sale, leading to a sudden spike in profitability. For instance, consider a plumbing company that consistently shows a profit of around $250,000 year after year. But just before going to market, the owner suddenly reports that it is now generating $500,000 in profit. This abrupt increase is often referred to as a ‘hockey stick’ in earnings.

This might initially seem beneficial, indicating increased free cash flow. However, it can raise red flags for prospective buyers and financiers. They may be wary of potential manipulation of figures and hesitant to proceed without a proven track record of sustained higher earnings.

SBA Pre-Qualification

Buyers, especially those who depend on external financing such as SBA loans or investment groups, will scrutinize these financials. SBA lenders and investment groups are particularly cautious of recent spikes in profitability just before a business goes on the market.

Getting a business for sale to be SBA Pre-Qualified is a crucial step for businesses aiming to sell for under $5 million, as outlined on the SBA’s website (www.SBA.gov). Banks and financial institutions typically require a demonstration of consistent, higher earnings over several years before they are willing to commit funds.

If you find yourself in this situation, delaying the sale of your business to demonstrate a sustained level of higher earnings might be a prudent strategy. Alternatively, revising past tax returns to reflect higher earnings might be an option, though this approach can lead to higher tax liabilities and additional complexities. It is crucial to consult with your accountant or attorney before making such decisions.

What to do if financials don’t show the right number

We recall a scenario involving a Tampa-based marketing company. A buyer had agreed to acquire the business at a desirable price, and the SBA lender was prepared to participate.

However, the lender’s financing requirements necessitated that the financial records accurately represent the business’s earnings. The seller had to return to his accountant to adjust the tax returns accordingly. For insights on maintaining accurate financials, consider consulting with local accounting experts, such as those at Unbehagen Advisors (https://unbehagenadvisors.com/financial-statements/).

In some scenarios, business buyers may propose purchasing your business at a specific price now, with the promise of additional compensation if the business continues to perform well over the following years; this arrangement is commonly known as an Earn-Out. This strategy can effectively align incentives between buyer and seller but requires careful contractual arrangements to ensure clarity and fairness.

So let’s summarize

Understanding the value of your business is crucial, even if you’re not currently planning to sell. Business valuations provide vital information that can help you make informed decisions about your company’s future. Here’s why engaging with a business valuation expert, like those at Legacy Venture Group, can be a strategic move for any business owner in Florida.

Why Get a Business Valuation?

A business valuation offers a snapshot of your company’s financial health and is essential for more than just preparing to sell. It helps you understand the true value of your business, considering all the intricacies that affect its worth. This includes everything from your company’s financial performance and industry position to its market competition and internal operations. By getting a valuation, you equip yourself with the knowledge to enhance your business strategies, secure investments, or even prepare for unforeseen circumstances that might require you to consider selling.

Strategic Planning

Knowing the value of your business can significantly influence your strategic planning. It allows you to identify strengths to build upon and weaknesses that need attention, helping you to allocate resources more effectively. This is particularly valuable when you try to sell a business on your owner or choose to work with a business brokerage.

Be sure to choose a company  who work with local businesses to maximize their market potential. A clear understanding of your business’s value can also facilitate discussions with potential investors or partners, as it provides a credible and comprehensive financial picture of your company.

Preparing for the Future

Even if selling your business isn’t on your immediate agenda, a business valuation prepares you for potential future transitions. Whether it’s planning for retirement, considering passing the business to family members, or exploring the possibility of an ESOP (Employee Stock Ownership Plan), knowing your business’s worth sets the stage for these decisions. This foresight can be invaluable, ensuring you are never in a position where you have to make hasty decisions about your business’s future.

Advantages of Local Expertise
For business owners in the Sunshine State, obtaining a business valuation in Florida provides a crucial advantage. It means partnering with professionals who have access to the latest and most accurate information on sold businesses. These experts also possess a deep understanding of current market trends, economic conditions, and the overall business climate in Florida. This local insight ensures that your business valuation reflects the real value of your company in its specific context.

Experts like Legacy Venture Group are familiar with the economic climate, industry trends, and market conditions specific to Florida. This local insight is crucial because it means your business valuation reflects the true potential of your business in its actual operating environment.

In summary, business valuations are a critical tool for any business owner. They not only prepare you for potential sales but also enhance your understanding of where your business stands and where it could go. They provide a foundation for robust strategic planning, helping you to navigate the complexities of business ownership with confidence. If you’re a business owner in Tampa or anywhere in Florida, consider reaching out to “Business Brokers in Tampa” at Legacy Venture Group for a comprehensive “business valuation in Florida”. Understanding the full scope of your options and the implications of each decision can provide peace of mind and a strategic advantage as you plan your business’s next chapter.

Thank you for your time, and we look forward to assisting you. Whether you’re seeking a business valuation in Florida or anywhere across the United States, Legacy Venture Group is here to help. We specialize in helping people sell a business, value a business, and successfully exit a business. Please reach out for your FREE CONSULTATION at Biz@buybizusa.com or call 833-289-2491 (833-BUY-BIZ1).