Understanding The Impact Of Risk On Business Valuation
What do you think your business is worth? This is the reality check question I ask business owners. When I ask owners how they determined the business valuation amount, the answer usually is "it is a multiple of my business' earnings or revenue." The reality is, two businesses with the same earnings can have widely different valuations. There are many factors responsible for the differences in business valuations. Most notable are a business' revenue size, growth rate, profit margins, and risk profile.
Business owners often fail to factor in how risk impacts valuation. Examples of risks are the strength and defensibility of the business model, customer and vendor concentration, ability to prosper in down times, competition, vulnerability of proprietary products to technological change, depth and strength of management, legal compliance, and other business weaknesses, etc. Because of their subjective nature, each valuation expert and buyer will evaluate these risks differently. The greater the risk in their minds, the higher the rate of return they will require on their investment (i.e., purchase) of a business. Because valuation multiples are the inverse of the required rate of return (often times referred to as the discount rate), businesses with higher risks typically receive lower valuation multiples.
Do you know how a sophisticated buyer would evaluate your business' risks? I maintain that because most business owners are so close to their business, they probably lack the objectivity and expertise to identify and understand which risks will have the greatest impact on their business' valuation. A solution you should consider that would provide a significant return on investment is to have a professional, experienced in mergers, acquisitions and exit planning analyze your business from the perspective of a professional business buyer in order to identify these risks. Ideally this process should take place at least eighteen months before you decide to sell your business. The sooner these risks are identified, the more time you will have to mitigate them.
Business owners often fail to factor in how risk impacts valuation. Examples of risks are the strength and defensibility of the business model, customer and vendor concentration, ability to prosper in down times, competition, vulnerability of proprietary products to technological change, depth and strength of management, legal compliance, and other business weaknesses, etc. Because of their subjective nature, each valuation expert and buyer will evaluate these risks differently. The greater the risk in their minds, the higher the rate of return they will require on their investment (i.e., purchase) of a business. Because valuation multiples are the inverse of the required rate of return (often times referred to as the discount rate), businesses with higher risks typically receive lower valuation multiples.
Do you know how a sophisticated buyer would evaluate your business' risks? I maintain that because most business owners are so close to their business, they probably lack the objectivity and expertise to identify and understand which risks will have the greatest impact on their business' valuation. A solution you should consider that would provide a significant return on investment is to have a professional, experienced in mergers, acquisitions and exit planning analyze your business from the perspective of a professional business buyer in order to identify these risks. Ideally this process should take place at least eighteen months before you decide to sell your business. The sooner these risks are identified, the more time you will have to mitigate them.
Posted by MergerMaven at 10/1/2010 11:23 AM 
Categories: Advice
Tags: acquisitions valuations risk profile exit planning valuation risks valuation expert valuation multiples mergers business valuation discount rate rate of return
Categories: Advice
Tags: acquisitions valuations risk profile exit planning valuation risks valuation expert valuation multiples mergers business valuation discount rate rate of return
That's pretty interesting... That's great, I never thought about Understanding The Impact Of Risk On Business Valuation like that before.
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One must always be prepared for risks when starting a business. That's why a PR manager is great "in the house", because he always thinks of different scenarios.
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It’s really important to know this things around since if you are looking forward to building a good reputation and appear useful to anyway, you really need to observe the details mentioned in the article above and make some effort for your business professionalism and growth.
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