Common Mistakes in Business Valuation

  • * Not really defining what is for sale -- Are all of the trademarks, copyrights, patents or other intangibles included in the sale price? For example, in the sale of a fast food chain, are the
  • proverbial "secret recipes" included in the transaction price?
  • * Forgetting favorable attributes-- A stone quarry may have one of the few available permits to excavate in a particular state or county, or a distribution business may own exclusive territorial
  • rights, etc. These attributes should result in a premium on the valuation of the business.
  • * Not discovering the true level of earnings - Making accurate adjustments to earnings (normalization) is essential to recognizing the real earning power of a company.
  • * Not finding the value detractors - Nothing is perfect. Is the business concentrated in just a few customers? Is the equipment antiquated? Are the financial statements in disarray? Will
  • significant capital expenditures be required in the near future? Consideration must be given to the impact of potential value detractors such as those listed above.
  • * Forgetting the real value of the assets - It is easy to forget that particular balance sheet items may be worth more than their indicated book values. For example, capital equipment may have
  • been depreciated to an amount significantly under its actual value.
  • * Selecting the incorrect earning period to capitalize or discount - Are they last year's earnings, an average of the past few years, or merely a projection of next year's earnings? Historical
  • earnings cannot be used if future earnings are expected to be substantially different.
  • * Choosing an inappropriate multiple or capitalization rate - Is it applied to EBIT or EBITDA and why? How was this multiple derived? Today's EBITDA multiple is not necessarily tomorrows!
  • * Not considering current market conditions - The current business climate and economy can significantly impact valuations. Changes in overall market conditions can cause valuations to
  • substantially fluctuate. This point can clearly be seen in the recent devaluation of Internet companies.
Copyright 2010 Business Brokerage Press

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