The dangers of overvaluing or undervaluing a business

When selling a business, conducting a business valuation is one of the initial steps. This process aims to determine the market value of the business, enabling informed pricing decisions. A qualified business valuer, with access to data on the sale prices of similar businesses, carries out the valuation. This valuable information helps mitigate the risks of overvaluing or undervaluing the business.

Overvaluing a Business – What Does It Mean?

Overvaluing a business refers to an overestimation of its worth. This can lead to several complications, including unrealistic expectations about the sale proceeds, which may fall short of anticipated amounts. Such discrepancies can disrupt post-sale financial plans, as the returns may not align with forecasts.

Additionally, the gap between the valuation report and the actual value of the business may mislead potential buyers. This could result in challenges in justifying the valuation, potentially leading to disputes. A business valuation may partially rely on growth projections, which are subject to change and could further impact the valuation's accuracy.

Should you decide to disengage with your business transfer agent due to an inability to attract buyers, it’s important to note that you may forfeit any upfront sign-up fees.

Undervaluing a Business – What Does It Mean?

Undervaluing a business refers to underestimating its worth. The amount generated from the sale of a business significantly influences post-sale financial plans and investment decisions. If the business is worth more than its valuation suggests, it could substantially alter the seller’s plans after the sale, placing the seller at a disadvantage for pricing the business lower than its true market value.

Factors Influencing a Business Valuation

A business valuation is influenced by numerous factors that can either increase or decrease the market value of the business, including:

Valuation Method

The technique chosen by a business valuer to assess the business’s value directly impacts the outcome. Business valuers will select the most appropriate method, such as the price-to-earnings ratio, entry cost, or discounted cash flow, to determine the business’s accurate value.

Comparable Sales Data

Access to comparable sales data is essential for determining an accurate market value. This data provides deep insights, allowing comparisons between businesses currently up for sale and those that have successfully sold.

Expertise of the Business Valuer

The experience and knowledge of the business valuer play a critical role in the valuation process. Their understanding of the local marketplace is invaluable in determining the value the business holds within its community and among its customer base.

Business Features

Factors such as location, physical premises, equipment, profitability, liabilities, and assets all contribute to a business’s market value. Additionally, the amount buyers are willing to pay for the business also affects its valuation.

Business Growth

Prospective buyers often consider the future growth potential of a business. Forecasts can provide insight into whether the business is poised to achieve new milestones and establish a promising future.

Both overvaluing and undervaluing a business present significant risks to both sellers and buyers, with potential financial consequences. Therefore, it is crucial to work with a knowledgeable and experienced business transfer agent. For further information on valuing a business and the risks associated with overvaluation or undervaluation, contact our helpful team at CBS today.