The calculation is simple. It is an adjusted net income divided by an adjusted discount factor. However, while the calculation is simple, knowing how to come up with the numbers that represent net income, and the discount factor is where the complexity enters in. I am not going to get into how to come up with those numbers but rather discuss understanding how those numbers come about and what your business is worth.
When it comes to the value of investments, business owners spend more time looking at their retirement and other investment statements than they spend looking at their privately-held business and understanding or knowing the value of their company. Generally, the percentage of those publicly-traded investments that are part of the business owners’ portfolio is typically a minority interest of their total portfolio value including tradable and non-tradable investments. So why don’t business owners spend as much time concerned about the value of their largest asset – their business?
When business owners invest in publicly traded stocks, they have an expectation that publicly-held companies hire competent management teams, which hire the right employees to build the value of those publicly-held companies. Do they think about having the same expectations for their own business?
Most privately-held business owners ignore that expectation with their companies. More importantly, the business owner never knows what the value of their company is until they are required to value their company for making a gift or resolving a partner dispute. The value for these purposes is never for the purpose of understanding what the company is worth but to minimize the amount they have to use for each of those purposes. Every business owner should manage their privately-held business the same way they would expect a publicly traded company to be managed and understand why the value is what it is and how to affect it.
Building a company to grow in value requires vision. To attain that vision, business owners must establish the goals necessary to identify and improve key business drivers of value. This process, ensures a sustainable business model that will enhance and build the value of the company. While management of publicly-held companies performs in this manner, it is seldom done in privately-held businesses.
Whether you want to sell your business or not, it is important to understand how your company is valued and what areas of the company must be groomed to grow its value to meet your expectations.