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business valuations
November 18, 2022 / IntelekSiteAdmin / 0 Comments

WHY DO I NEED A BUSINESS VALUATION?

If you’re a business owner, accountant, investor, or, simply taking an interest
in business valuations, and have ever wondered Why do I Need a Business
Valuation? Then this is the article for you, as we explain it from a couple of
different angles.

A major mental block to the (necessary) process of accurate and recurring
business valuation is the perception that it’s unnecessary except in limited
circumstances. Most business owners understand the necessity of a business
valuation when considering a sale. Still, just as many businesses require help
understanding the benefit of maintaining a rhythmic assessment period in order
to make an accurate business valuation available.


EXISTENTIAL VS. CONCEPTUAL

The purposes of business valuation generally fall under two broad groups:
existential and conceptual. Existential purposes, as the name indicates, are
valuation requirements that relate to the core existence of the company in some
capacity; often, these are third-party requirements. Conceptual business
valuation, by contrast, is a tool for the business owner to manage their company
better.





EXISTENTIAL

Lest readers think that existential valuation is only necessary when that event
or circumstance arises, some of the below cases can come on suddenly and without
warning. In that situation, it’s best to have a semi-recent business valuation
record available.

Time is often of the essence. By not rushing a valuation when required, you
mitigate the risk of sloppy, difficult-to-defend valuations, and you also likely
save money by not paying emergency fees to expedite the process.

Below are a few primary and, although not all, existential reasons to conduct a
business valuation.

REGULATORY REQUIREMENTS

Depending upon the country and specific circumstances, government or third-party
regulatory bodies often require a business valuation. There are far more than is
practical to list, but a common scenario is stock option management:

ISSUING STOCK OPTIONS

If your company is a startup or a small, growth-phase business attracting top
talent without the cash to pay steep salaries, you may issue stock options as
compensation instead. In that case, the IRS explicitly mandates a formal
business valuation under Section 409A. These valuations must meet one of three
criteria:

 1. a qualified independent appraiser performs the valuation
 2. for startup companies, someone other than an independent appraiser with the
    requisite knowledge and experience performs the valuation, and the valuation
    satisfies other criteria under Section 409A
 3. a formula is used to determine the valuation, as prescribed under Internal
    Revenue Code Section 83

Incorrect or ignored business valuations come with steep fines, so an accurate
and professional business valuation is vital under IRS Section 409A.

To underly this, consider a similar situation we faced with warrant valuation.
One of our clients needed to report the value of newly-issued warrants, separate
from a comprehensive business valuation, for reporting purposes under IFRS 13.

IFRS 13 requirements are similar to IRS Section 409A, but the previous valuation
consultants used an inferior method that didn’t account for the significant
volatility the company often saw, whereas we used a customized, proprietary
valuation method to value the warrants.

If this client had gone with the previous inferior valuation, they could have
delayed annual review deadlines and could even have been subject to fines.


COURT-MANDATED VALUATION

Courts often require a current and accurate business value for proceedings such
as regulatory requirements. Without diving too deeply into each, courts may
demand a valuation for:

 * divorce proceedings
 * disputes with shareholders or inside interests (such as partners)
 * conflicts with external interests that require litigation (such as divorce
   proceedings or probate)

A through-line in these—and in most other court-required valuation scenarios—is
that the valuation must be accurate and defendable within a court of law. This
emphasizes a need for professional assistance, as these third-party firms stake
their reputation on the legal dependability of their conclusions of value. Also,
to an equal extent, you need an expert with your best interest in mind to avoid
over/undervaluing the business in a way that could hurt your legal outcome.


CONCEPTUAL

Our first conceptual example is more of a bridge between existential and
conceptual, depending upon the circumstance: sale and investment.


SALE AND INVESTMENT

Liquidity events come about unpredictably, and sometimes they vanish as quickly
as they arise. Therefore, keeping an accurate and current valuation as a proxy
for desired sale pricing is critical to taking advantage of those opportunities.
Suppose you decide to sell or execute your exit strategy at a liquidation event.
In that case, you will need a business valuation anyway—you may as well have a
recurring, updated valuation done so that a quick revision from the last is easy
and doesn’t obstruct progress.

Likewise, investment opportunities are only sometimes predictable. Gaining
market share, rolling out a new product, or making a new friend can mean an
opportunity for investment in your company. Having a business valuation handy
means faster due diligence on the investors’ behalf if your numbers and records
are accurate.

This also applies to applying for a bank or personal loan. You may stumble upon
an opportunity and need to apply to a lender quickly. They will require a
business valuation to assess your risk, and having that available can quicken
the sometimes lengthy creditor risk-assessment process.


EVALUATE GROWTH

Business valuation encompasses far more than a final price tag. A business
valuation is, in effect, a holistic audit of your firm beyond the balance sheet.
A recurring, iterative business valuation will help you identify trends over
time, as well as areas in which you can cut costs or push expansion. One of the
most important and unknown factors for business owners is the assessment of risk
within the business. First identifying and then lowering specific risks and the
overall risk of the business increases the value (all else equal).


OWNER-SPECIFIC CIRCUMSTANCES

There are many non-operational and non-business reasons you must value your
business as an owner or founder. The most common is during comprehensive estate
planning, as divvying up assets amongst beneficiaries will require value
associated. In addition, estate documents should be updated regularly, with the
business valuation updated alongside it.

Alternatively, you may want to make an asset-based charitable donation rather
than cash. An asset donation could mean slicing off a portion of your business,
such as PP&E or anything that isn’t cash or marketable securities. In that
circumstance, it will need to be valued appropriately to comply with IRS
standards in many cases. While not a complete business valuation, the same
principles apply, and many firms do partial valuations in situations just like
this.


CONCLUSION

While many acute scenarios may require a business valuation, these can be
difficult to predict and are often time-sensitive. Paralleling this, many
peripheral benefits to business valuation are invaluable to the business owner.
Between the existential and conceptual, keeping a systematic business valuation
process on your calendar is necessary—because you will always need a business
valuation, but you won’t always know when.

 

#Business valuations #requirements for a business valuation #why do I need a
business valuation


Author

INTELEKSITEADMIN





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