You only get one chance to evaluate your business for a sale, says George Hartman, CEO of Toronto-based Market Logics Inc., so you should be sure to get it right.
Finding that final number is difficult because tangible assets, such as office equipment, have to be considered along with intangible factors, such as client relationships.
Follow this advice to help put the right price on your business:
> Make yourself replaceable
The majority of your business’s value consists of “good will” or client relationships and service offerings. Writing out the details of those processes and about clients can help you place a value on the business.
You need to take what’s in your head and put it on paper, says Darren Miles, a chartered business valuator and owner of Fair Market Value Inc. in Burlington, Ont. Document everything, from client personalities to your philosophy and how your staff handles day-to-day issues, he says.
Your business processes should be written down three to five years before the expected sell date, Miles says.
> Look to the future
When looking at the numbers, focus on the future.
There are two main ways to evaluate a business based on revenue, says Miles. The first is called “capitalization of discretionary cash flow,” which is a five-year historical analysis of revenue. The second is a “discounted cash-flow technique,” which takes a baseline of the practice’s revenue, expenses and cash flow and projects those measures for the next five years. That number is then discounted to the present day based on a formula that takes into account, among other things, the size of the business and the length of the projected time period: in general, a smaller business produces a higher discount rate. The discount rate is added to the value of the business, as if it had been liquidated. Typically, the discount rate that is applied to this valuation is between 20% and 30%.
A discounted cash flow technique is used more often now because of the volatility of the past few years, he says.
Although the whole process can take years, you should evaluate your business about six months before the sell date to get an accurate price, says April-Lynn Levitt, a Calgary-based coach with the Personal Coach.
> Negotiate a transition period
Few advisors simply walk away from their businesses, says Hartman. Successful transactions generally require a period of transition, during which the practice is handed over gradually.
Most deals are paid out in installments and depend on client retention. A transition period leads to a higher client retention rate and makes the financial aspect of the deal easier to fulfill.
Miles recommends a three-month transition period at a minimum. Or if you plan to stay for a year, create a one-year contract that can be renewed if both you and the buyer are happy with the arrangement.
> Look beyond the numbers
Don’t get caught up in the numbers when doing the evaluation.
In some cases, the best buyer for your business may not be the person offering the highest price, says Hartman.
You need to consider the person’s business philosophy and office culture as well, to ensure your clients will continue to be served properly.
> Get a professional opinion
Evaluating your business is a difficult and complicated task, so it’s a good idea to work with a professional.
While it does cost money to work with a valuator, says Levitt, it’s more professional and makes everyone involved feel comfortable.
> Review the agreement
Have all the paperwork looked over once you come to an agreement.
Advisors often take it for granted that everything is correct with the deal, says Levitt, which can really come back to haunt them.
“People are really trusting, which is good,” says Levitt, “but you want your lawyers to review the agreement.”
This is the final installment in a three-part series on succession planning.