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Business valuations aren't just for
retirement anymore
By Randy Bonnecaze
Too often, construction business owners become concerned
with their companies' values only when they're ready to retire.
And then their mentality is simply: "How much money do
I need to have in the bank earning 5 percent a year to maintain
the lifestyle I'm used to?" Little do they realize that
this kind of shortsightedness actually diminishes their companies'
potential worth.
Ideally, you need to monitor your business's value throughout
your working life - always trying to figure out not only where
you stand today, but also where you'll be in five or 10 years.
By doing so, you'll have infinitely more options than an owner
who just begins to evaluate his or her position only when
retirement is imminent.
Reasons and methods. So, besides
retirement, why else should you consider a business valuation?
Well, some other typical reasons for one include when:
- Selling the business or acquiring a new one
- Planning for gifts and estate taxes
- Buying out a shareholder
- Converting to an S corporation
- Updating a buy-sell agreement
- Responding to regulatory compliance
- Divorcing a spouse
- Experiencing virtually any kind of general litigation
Depending on which of these purposes (or others) apply, the
values for the same construction business could significantly
differ. That's why a valuator will tailor his or her approach
to adhere to a specific standard of value.
For instance, the income approach relies on the capitalized
and discounted earnings methods, which derive value primarily
based on earnings. Meanwhile, the market approach attempts to
develop a direct pricing mechanism by looking at benchmark companies
(public and private). When a solid financial performance history
exists and is expected to continue, the valuator will likely
use the income and market approaches. Alternatively, when a
valuator can't reasonably ascertain reported earnings or estimate
future operations, he or she will generally turn to an asset-based
approach.
Key value drivers. As with most
industries, the construction business has specific "key
value drivers" that determine how much a company is worth.
These include:
- Management depth. A business is only as good as
its leaders. So management depth is an important valuation
consideration. A prospective successor or buyer will definitely
want to know whether your staff's stability and market base
would suffer if you left.
- History of strong earnings, new contracts and order
backlogs. Earnings are as important as leadership. Buyers
typically want to buy the "history," while sellers
want to sell the "potential." And, again, looking
into this information regularly will give you a good idea
of what's working - and what's not.
- Bidding success rates and consistent revenue sources.
The ability to complete projects on time with adequate
cost control translates into consistency and predictability
of earnings. Also, being able to schedule and implement
projects and control labor costs is key to staying profitable.
These drivers influence the associated business risk (reflected
in terms of the multiple applicable to the cash flow or some
other economic measure) and expected future net cash flow (the
amount owners may take from the business after leaving enough
for capital expenditures and working capital for future operations).
Low business risk and high cash flow translate into superior
business value.
A critical process. Even if retirement
or a business sale is the furthest thing from your mind, you
need to be constantly aware of your construction company's realized
and potential value. A little bit of planning can go a long
way.
Editor's Note: Randy
J. Bonnecaze is a Certified Public Accountant (CPA) with Hannis
T. Bourgeois LLP, Baton Rouge.
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