Beware of Non-Certified Business Appraisers.

There is No National Requirement.

Confusion and misunderstanding seem to surround business valuation more than virtually any other business topic. Everyone seems to have a different multiplier or rule-of-thumb to value your practice. You have worked your whole life growing your practice. Now that it is time to exit from yours or buy one, why risk it on a crapshoot? The need to accurately price your practice is paramount to successful acquisitions, divestitures, and exit strategies.

All of us who are certified in business valuation are required to work to the same industry standards. Beware of others who are not certified as there is no national requirement to be so. As a licensed business appraiser, we are required to consider all of the 10 to 15 (some say more) conventional valuation methodologies for each appraisal. These valuation methodologies include market approaches, asset approaches, and income approaches. Income approaches are considered the most accurate. Let’s compare them.

Market approaches are similar in concept to the Competitive Market Analysis (CMA) that is provided by your real estate agent when you sell your home. The real estate industry has done an accurate job of tracking the sale of homes, their price, location, size, and the details of each home. Having this information, a CMA is accurate and meaningful in the marketing of your home. Unfortunately, this is not the case with businesses. Efforts have been made to try and track the sale of businesses to replicate the real estate industry’s success but to no avail. The sale of a business is a private transaction and the information is just not available.

There are three primary asset approach methods. The liquidated value method, the book value method, and the adjusted book value method.

The liquidated value method is used only for business in distress. This method estimates the liquidated value of the assets on a “forced sale” bases where the values are less than the fair market value of the assets and subtracts the liabilities. This method is not appropriate for a successful practice due to the risk of understating it value as a going concern.

The book value method is calculated by subtracting your practice’s total liabilities from its total assets as listed on the balance sheet. The value of the assets may have been reduced faster than the true economic loss of their fair market value. Therefore, the book value of a business is not used because it does not consider the income-producing ability of the assets to produce a fair market value of the practice as a going concern.

The adjusted book value method adjusts the book value of your practice’s assets to their estimated fair market values and subtracts the liabilities. If the adjusted book value is worth more than the fair market value of the practice, it would be better to sell the assets outright, not the practice as a going concern. Therefore, your practice is never worth less than its adjusted book value. This method is usually rejected because its adjusted book value is not an indicator of the income-producing ability of the assemblage of all of the assets.

There are numerous income methods. The two that are primarily used are the Discounted Cash Flow method and the Capitalization of earnings methods. Historically, income approaches carry the most weight and the capitalization methods used the most frequently.

The Discounted Cash Flow method is based on an estimate of the future net income your practice is expected to generate in the future. Sales and expense projections are made from 5 out to 10 years in the future. A present value is subjectively determined and the future estimated income stream is discounted back to a present value. Due to the subjectivity of making income, expense, and present value projections out for such a long period, this method is rarely used to value professional practices.

The Capitalization of Earnings methods (Cap rates), is also known as “multiples of value” and are the most frequently used to value a professional practice. There are many methods in this category including those developed by the IRS to compensate brewers and distillers for their businesses during prohibition. Although there are many different methods, they are all similar in that the business’ annual income stream is normalized to adjust it for extra-ordinary income and expenses. The resulting value is multiplied by a capitalization rate multiplier. Unfortunately, should the subjectively of calculating the cap rate varies by only one half of one percent, it could under-state or over-state the practice’s value by $100,000 or more.

Since all of these methodologies are considered to be relatively inaccurate when used individually, the appraiser is to select the most appropriate methods that he/she thinks will most accurately represent the size, type, and market location of the subject practice. Ultimately, five to seven methodologies are used in a valuation.

The resulting value of each method is subjectively weighted, and the weighted average result determines the final opinion of value. Unfortunately, weighting the results of individual methods that are individually considered inaccurate, doesn’t make the weighted values any more accurate. For this reason, the appraiser is supposed to perform a “sanity check” or “test of reasonableness” to assure that the final opinion of value makes sense. Unfortunately, most evaluators skip this step and you are left with a weighted average or range of values for your practice that can’t be quantified and can only be negotiated during the buy/sell process.

What sets The TASCON Group apart from other valuation companies is that every effort is made to provide our valuation clients with an accurate and quantifiable valuation result. In 1989 we developed a proprietary software platform known as The TASCON® Business Analyst that perfected the “test of reasonableness” to become what the industry now calls the “Optimization” method. It is considered the most accurate and quantifiable valuation method in the industry today.

It is based on the fact that a fair market transaction must be a “win-win” for all parties. It uses only non-subjective, third-party data and is based on the fact that a business is worth that price at which:

1. It must be able to pay the structured debt that the sale creates at market terms and conditions.

2. It must pay a fair market salary to the owner, commensurate with the size, type, and location of the business and

3. It must pay the owner a fair return on their investment, commensurate with the risk of a similar business.

In any market, at any snapshot in time, there is only one mathematical value at which a business can simultaneously meet these three criteria. All valuations performed by The TASCON

Group are performed to these standards and are therefore quantifiable.

Our valuation reports give you more than others can provide. Besides an accurate and quantifiable result, our report also provides you with the important information needed to get deals done quickly. Since a business’s value is different from its stock value, our report includes a stock/equity valuation for tax purposes and partnership deals. Also included is an estimate of the seller’s post-sale proceeds for tax and other planning purposes. Since a buyer wants to know what their annual salary will be should they purchase the practice at the fair market value, also included is an estimate of the buyer’s income both during and after the payment of debt service. All of these items would require additional time and fees to determine and having these answers upfront speeds up the sales process.

The efficiencies of our proprietary software allow us to perform “the test of reasonableness” upfront and eliminates the time and your expense that would be needed for us to perform the calculations for the many methodologies that we already know are inaccurate and wouldn’t be used.