Four Areas Where Valuation Plays a Critical Role

Value is the starting point for everything you want to do for your business in terms of growth, protection, sustainability, and more. It provides a starting point for your plans and informs important decisions, but depending on what you’re trying to do, value can play a variety of roles in your strategy.

The determination and use of your valuation always comes down to the purpose and the circumstance. Let’s look at the four main areas where your valuation plays a starring role: growth and planning, M&A and external sales, equity ownership, as well as protections and legal documentation.

Growth & Planning

Businesses of any size, at any point in their journey, are making plans to grow and looking at what they want to accomplish in the coming years. A comprehensive and accurate valuation plays an important part in providing baseline information from which to launch your short- and long-term strategies.

Whatever your priorities, valuation is a critical piece of information. Want to grow by a certain percentage each year? Your current value allows you to monitor and measure your progress. Want to grow your team? Your value will help you understand what you have to offer and how to best structure compensation. Want to acquire? Your value will determine the best acquisition targets. Want to increase profitability? Your value and its driving factors can help you plan for better expense to revenue balance.

As you work through your annual planning and goal setting–whether you do this alone or with the help of an experienced business planning coach–you need to know where you’re starting from. A formal business valuation not only gives you a snapshot of your current value but what’s contributing to that value so you can better plan for its growth.

Taking things a step further to benchmark your main value drivers and dive into your business’s key performance indicators (KPIs) can help you better focus your strategy and efforts.

M&A and External Business Sales

In the M&A marketplace, current value is required information for both sellers and buyers.

For business owners looking to sell their business, a business valuation is needed to help determine deal terms and selling price. A market valuation helps you understand your business is worth in the current market given a variety of factors. This information allows you and your M&A consultants to communicate a strong value proposition and set a price worthy of what’s been built.

For buyers, your business value is just as important as the business you’re acquiring, for multiple reasons. As you prepare to enter the M&A arena, knowing business value and its drivers will help you focus your strategy by pinpointing key areas that can be improved through an acquisition (service offerings, team experience, location, etc.). Your value will also help you understand what you can realistically afford to acquire in terms of finances and capacity. A professional valuation will also strengthen your offer by demonstrating your historic growth rates and the strength of your business to sellers. And finally, if you are planning to leverage bank financing for your acquisition, your lender is going to require a formal valuation of your business to determine whether you are worth the risk.

Equity Ownership and Transfer

There are many circumstances in which your business might employ a transfer of equity ownership. This could be part of: an internal succession plan, a Sell & Stay or merger, or incentive-based compensation as synthetic equity. In each of these situations, the value of the business as a whole must be assessed before the value of an individual share can be determined.

Here a different type of valuation is required. While a market-based valuation that centers more on the assets and revenue of the business is appropriate for M&A and external sales, a different focus is applied to the sale of equity. In that case, it is more appropriate to employ an income-based valuation where the focus on value lies in the structures, team, and efficiencies it has built–in addition to its revenue. 

Value in these cases plays the role of investment. What is it that a G2 or partner firm is going to realize from their investment of time and money down the road? 

When executing internal succession, the firm’s value and the value of each share of equity will impact how the transition is structured and the financing terms, whether seller or bank financed. For a Sell & Stay where a business is being acquired with the retention of owners–or a merger where businesses and ownership teams are being combined–a valuation of all involved firms is required to accurately assess the value and percentage of the resulting business and its ownership’s equity.

In the circumstance of synthetic equity for incentive-based compensation, while a participant isn’t necessarily gaining authentic equity in the business, the value of the business and its equity determines what a key team member is rewarded once their set benchmarks and tenure have been achieved.

Business Protection, Documentation, and Disputes

In this last area, your valuation plays a critical role in various circumstances for legal documentation or litigation. Here it provides a specific number for which the asset of your business can be leveraged if needed. 

The most common situation in this group is: continuity protection. Regardless of size, all financial services businesses need some level of continuity protection. Continuity is critical to ensure that operations are not interrupted, and client assets are not left unmanaged in the case of unexpected death, disability, or personal disruption. Business value is required for continuity agreements and supporting insurance policies to determine payout amounts should any of these documents be triggered.

Business value is necessary for resolving ownership disputes or sudden exits that could arise. Hopefully, the business would have formal entity and operational documents that would ensure that these unplanned ownership shifts have limited impact on the business and its operations. But, in any case, a current valuation may need to be performed to determine any dissolution liquidation or exit compensation.

The plans, priorities, and possibilities for wealth management firms are as varied as the owners who achieve them. And accurate and up-to-date value is at the heart of any successful business strategy. Whatever the path, whatever the aim, it starts with a clear view of your business right now.