Some Common and Scary Business Valuation Mistakes
There is a great deal of confusion when valuing a business and business sellers tend to make the same mistakes. The startling fact is that unfortunately, so-called professionals often repeatedly make these same mistakes.
Mistake # 1 – Applying a ‘one size fits all’ rule of thumb
While a one-size fits all valuation method is simple, unfortunately it does not result in accurate business valuations. Applying the average or median ratio as a one size fits all multiplier produces misleading and unfair results, particularly to the better businesses.
Mistake # 2 – Using contrived methods such as “super profits”
This is one of the more unusual (and frequently just plain silly) valuation methods, where the method assumes that different parts of the investment in a business have different levels of risk and therefore should return different rates of returns on the investment. In reality when a business goes under all business assets lose substantial value – nothing is protected.
This particular contrived method was first used in the US in the early 1920s when American lawyers had trouble understanding discounted cash flow. The concept of ‘super profit’, while having an illogical grounding, was easily understood by lawyers and judges, and was used until fairly recently to settle equity cases.
Mistake #3 – Neglecting to include Work In Progress (WIP) in business valuation
It is quite amazing how people who should know better often overlook WIP when valuing a business. WIP is a key element of the business value in both professional practices and contracting companies. In these environments there is usually valuable work in progress still to be invoiced.
It’s especially alarming when you consider how easy it is to avoid these pitfalls, simply by purchasing our BizSale Kit.
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