Understanding Business Value Enhancement
Posted by Valentiam Group on April 13, 2021
Everyone understands business value enhancement as a positive, but what does it really mean?
Improving the balance of assets, revenues, cash flows, and margins of a business are some obvious value enhancement tools and techniques, but these can be difficult to accomplish. Depending on the industry and market, these value enhancements may be beyond the control of the business owners. In this article, we will examine several other factors that enhance business value that are generally easier to achieve.
What qualifies as a business value enhancement?
In addition to the value enhancement tools and techniques previously mentioned, three additional business value enhancement strategies can significantly impact the value of a business to a potential buyer:
- Consistent operating procedures and systems: Consistency in operations is a competitive advantage that increases the value of a business for a potential buyer. Having a consistent operating strategy reduces the need to “put out fires” and generally increases the amount of energy that can be devoted to improving the business and its profitability. A proven operating strategy assures buyers that the business is positioned to increase in value.
- Limited reliance on a “key man” or another hard-to-replace asset: Businesses that are overly reliant on the founder/owner or on a key employee are less valuable to prospective buyers because it is unknown how the company will perform if those people no longer manage or work for the business. Wherever possible, the business should emphasize developing operating systems and procedures that do not rely on a key individual to keep it running smoothly. This strategy can also apply to over-reliance on a few key customers or suppliers.
- Formal agreements with key employees, customers, and suppliers: Contractual agreements with important suppliers protect the company on the supply end, while such agreements with employees and customers protect it on the operations and revenue fronts. Formalizing these relationships provides stability, which enhances value.
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Other Factors Affecting Business Value Enhancement
As noted in a previous article, going concern value will always be greater than liquidation value because an intact, fully operational business includes the value of future revenues.
Outside of greater assets or greater revenues and margins, business value enhancement comes down to the value of intangibles. In a merger or acquisition (M&A) transaction, synergy may also play a role. If the business will fill a gap or otherwise provide an operating synergy for the acquiring company, its value to the buyer will be enhanced. In these types of transactions, the enhanced value is investment value to the specific buyer—not market value. The value of the acquired business will be both the tangible and intangible assets and goodwill—which represents the additional, synergistic value to the purchaser.
Particularly in the case of a privately held business, a number of intangible assets aren’t recorded in the financials and can’t be added to the balance sheet. The value of an established customer base and workforce and contractual agreements provide value above and beyond the tangible book assets. This value is not captured in the balance sheet and is only booked when the business is sold through an M&A transaction.
For other types of transactions, the enhanced value of the business can be established with a business valuation, which considers cash flows, future output, the industry, and every factor that contributes value (or erodes it). A full business valuation will capture the value of both the tangible and intangible assets, as well as future revenue potential from the existing assets. Depending on the reason for the valuation the company can determine the value of their company from the view of a neutral third party, or determine the value of the separate assets of the business. While the fair market value business valuation does not look at the synergistic value of the company, it can provide a wealth of information on how the market sees the value of the company.
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Topics: Business valuation