What is my Business Worth ?
“Discretionary Earnings Key for Selling Business “
Determining the value of a business is a complex task best done by a professional business intermediary or qualified valuation analyst. Before determining a business’ market value, the financial information – profit and loss statements, balance sheet and tax returns, must be recast to reflect the business’ true earning power.
Recasting financial statements provides buyers a common baseline – discretionary earnings – to compare prior and potential earnings. Discretionary earnings are also referred to as seller’s discretionary earnings, owner’s benefit, seller’s discretionary cash flow, adjusted cash flow, recast earnings, and normalized earnings. These earnings provide a measure of the total financial benefit accruing to the business owner. It’s the most common measure of earnings used for small and mid-sized privately held businesses because it is the most accurate way to reflect the total economic benefit for the owner. Discretionary earnings are calculated by combining pre-tax net income (from the tax return), owner’s salary plus discretionary expenses (or perks), non cash expenses such as amortization and depreciation, plus interest expense, plus non operating expenses, plus non recurring or one-time expenses.
As a business owner, you should focus on what your company is really worth. Prospective buyers are interested in companies that have value to them. Therefore it is important to have a current and accurate valuation done on your business before the process of taking your business to market begins.
Small and mid-market businesses, in contrast to large public and private organizations, tend to keep reported net income as low as possible to minimize their taxes. Recasting of financial statements is a critical tool in presenting the real earnings history of the business to prospective buyers and also to arrive at an accurate value for the business. The recast financial history and discretionary earnings takes into consideration and eliminates expenses that are owner benefits, nonrecurring, or nonoperational to calculate the total economic benefit the owner realizes from the business.
The most common method to price your business includes multiple of cash flow (DE) – normally 1 to 3 times the annual DE, depending on the type and size of the business. No matter what method is used, you need to be aware that there are many factors that contribute to the pricing of your business such as; financial terms, an earnout, non- compete clause, future potential, and quality of books and records.
Conclusion: Now that you have committed to selling your business, please recall some key points made earlier in this writing. First, the process of selling your business could take up to a year or more – you need to be patient. Second, once you make the decision to sell, you need to stand by that decision. Third, start putting together the information that prospective buyers will want to review during due diligence. Finally focus on what you do best, running your business.