Decision Vision Episode 169: Should I Have My Business Valued Every Year? – An Interview with Doug Marshall, Marshall+Viliesis, LLC
Doug Marshall, Partner at Marshall+Viliesis, LLC, joined host Mike Blake to cover the process of having a business valuation done, and whether doing a valuation every year is advisable. They discussed the factors which impact a business’s value, ways it can be valued, reasons to do it annually, whether it should be done in-house or independently, and much more.
Marshall+Viliesis, LLC is a firm dedicated to helping owners Value & Protect their largest and most important asset.
Business Value Protection Planning™ is a proprietary system developed by Marshall+Viliesis to help owners through the planning process with speed and accuracy. It guides them through the four critical areas of Succession, Retirement, Estate and Key Stakeholder. Planning.
Starting with a valuation Business Value Protection Planning™ has the ultimate goal of planning which is Current, Complete and Coordinated. Business owners think differently than the wealthy affluent and deserve a better planning experience designed for them.
Doug Marshall, Founding Partner, Marshall+Viliesis, LLC
Doug Marshall is a founding partner at Marshall+Viliesis, LLC. He is focused on helping owners get the planning they deserve to protect the wealth, income, and legacy of their business.
Along with his partner Peter Viliesis he created Business Value Protection Planning™, a system designed to deliver planning that starts with a valuation of the business. Knowing the current value of a business helps an owner make better decisions for the business. It helps the owner make better decisions for growth, decisions for protecting the business value, and decisions to help unlock business value.
Previously Doug has worked with Nationwide, Manulife/John Hancock in the Corporate Products division where he developed and marketed Corporate-Owned and Bank-Owned Life Products. He has been associated with Penn Mutual on the brokerage side as well.
He is located in Seattle Washington where the state is home to over 400 Craft Breweries. Much of his focus is working with Brewery Owners, a fascinating manufacturing industry. If you are ever in Seattle he will be more than happy to take you on a tour!
Mike Blake, Brady Ware & Company
Michael Blake is the host of the Decision Vision podcast series and a Director of Brady Ware & Company. Mike specializes in the valuation of intellectual property-driven firms, such as software firms, aerospace firms, and professional services firms, most frequently in the capacity as a transaction advisor, helping clients obtain great outcomes from complex transaction opportunities. He is also a specialist in the appraisal of intellectual properties as stand-alone assets, such as software, trade secrets, and patents.
Mike has been a full-time business appraiser for 13 years with public accounting firms, boutique business appraisal firms, and an owner of his own firm. Prior to that, he spent 8 years in venture capital and investment banking, including transactions in the U.S., Israel, Russia, Ukraine, and Belarus.
Brady Ware & Company
Brady Ware & Company is a regional full-service accounting and advisory firm which helps businesses and entrepreneurs make visions a reality. Brady Ware services clients nationally from its offices in Alpharetta, GA; Columbus and Dayton, OH; and Richmond, IN. The firm is growth-minded, committed to the regions in which they operate, and most importantly, they make significant investments in their people and service offerings to meet the changing financial needs of those they are privileged to serve. The firm is dedicated to providing results that make a difference for its clients.
Decision Vision Podcast Series
Decision Vision is a podcast covering topics and issues facing small business owners and connecting them with solutions from leading experts. This series is presented by Brady Ware & Company. If you are a decision-maker for a small business, we’d love to hear from you. Contact us at email@example.com and make sure to listen to every Thursday to the Decision Vision podcast.
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Intro: [00:00:02] Welcome to Decision Vision, a podcast series focusing on critical business decisions. Brought to you by Brady Ware & Company. Brady Ware is a regional, full-service accounting and advisory firm that helps businesses and entrepreneurs make visions a reality.
Mike Blake: [00:00:21] Welcome to Decision Vision, a podcast giving you, the listener, clear vision to make great decisions. In each episode, we discuss the process of decision making on a different topic from the business owners or executives’ perspective. We aren’t necessarily telling you what to do, but we can put you in a position to make an informed decision on your own and understand when you might need help along the way.
Mike Blake: [00:00:42] My name is Mike Blake, and I’m your host for today’s program. I’m the Managing Partner of Brady Ware Arpeggio, a data-driven management consultancy, which brings clarity to owners and managers of unique businesses facing unique strategic decisions. Our parent, Brady Ware & Company is sponsoring this podcast. Brady Ware is a public accounting firm with offices in Dayton, Ohio; Alpharetta, Georgia; Columbus, Ohio; and Richmond, Indiana.
Mike Blake: [00:01:07] If you’d like to engage with me on social media with my Chart of the Day and other content, I’m on LinkedIn as myself and @unblakeable on Facebook, Twitter, Clubhouse, and Instagram. I also recently launched a new LinkedIn group called Unblakeable’s Group That Doesn’t Suck, so please join that as well if you would like to engage.
Mike Blake: [00:01:25] Today’s topic is should I have my business valued every year? And this is a topic that I have avoided. It has been suggested to me that I really should be doing more valuation stuff, because at least nominally, that’s the field that I’m in. But to be perfectly candid, I’ve been reluctant to do it, because I didn’t know how to do it in a way that just wasn’t completely self-serving. And those of you who know this podcast, who have hung around and listened to a few of these, you know that I have no interest in turning this thing into an infomercial.
Mike Blake: [00:02:04] We put information out there that we hope and believe is useful to our audience. We bring experts on that can talk about the topic and just sort of let it go at that. But the fact of the matter is that valuation of a business is important, and it’s important for a lot of reasons, whether you’re thinking of selling your business, you’re positioning it to be transferred to a family member or somebody else, there are tax planning implications, all kinds of reasons why you ought to know or at least have some idea as to the value of your business should you decide to sell it or another business should you decide to buy it.
Mike Blake: [00:02:49] But I didn’t want to get on here and basically just do a monologue, and again, be sort of Ron Popeil selling the Ronco Rotisserie Showtime grill, which, by the way, as an aside, is fantastic. I’ve had one for like 15 years. I got one as a Christmas present for my mother, and I thought, for sure, this is going to be one of these things that goes into the attic with like 25 years of fruitcake, but I’ll tell you, the damn thing works. It actually does make the best tasting chicken and turkey we’ve ever had. So, they’re not a sponsor of the show, and as far as I know, Mr. Popeil, I actually think, passed away about 10 years ago. But anyway, that’s a sort of an aside there. If you’re thinking of getting one, go ahead and get one, because I think they’re pretty neat.
Mike Blake: [00:03:34] So, helping me out here to make sure that this isn’t an infomercial, and frankly, just to sort of keep me in line is my friend joining us from Washington State, Doug Marshall, who is a founding partner in Marshall|Viliesis, LLC. He’s focused on helping owners get the planning they deserve to protect the wealth, income, and legacy of their business. Along with his partner, Peter Viliesis, he created Business Value Protection Planning, a system designed to deliver planning that starts the valuation of a business.
Mike Blake: [00:04:03] Knowing the current value of a business helps an owner make better decisions for the business and helps the owner make better decisions for growth, for protecting the business value and decisions to help unlock business value. And I think that second part is very important and is very overlooked, especially when times are good, but protecting value is so important, and I think that it’s not as sexy as growth or profit, but, boy, building resilience into your business, or as Nicholas Taleb would say, antifragility into your business, I think that it is an incredibly important concept that maybe we’ll dive more deeply in another show.
Mike Blake: [00:04:48] Previously, Doug has worked with Nationwide Manulife John Hancock in the Corporate Products Division, where he developed and marketed corporate-owned and bank-owned life products. He has been associated with Penn Mutual on the brokerage side as well. He’s located in Seattle, Washington, with a status home to over 400 craft breweries. Much of his focus is working with brewery owners, a fascinating manufacturing industry. That’s something that we have a guy in our practice who owns Sizemore, does a bunch of as well. If you’re ever in Seattle, he’ll be more than happy to take you on a tour. So, with that, I’d like to welcome Doug Marshall to the Decision Vision podcast.
Doug Marshall: [00:05:25] Thank you, Michael. It’s a pleasure to be here. Really appreciate the opportunity.
Mike Blake: [00:05:30] So, explain to our list, and of course, I know the answer to this question, but most of our listeners don’t, what is a business valuation?
Doug Marshall: [00:05:41] Well, it doesn’t come with a set of steak knives, so we definitely are not doing an infomercial here. But I think that most business owners have a notional value of what their business is worth, because they talk to other business owners, right? Yet, at the same time, very few go through the formal process of getting a valuation, of having somebody take all of their financial data, look at what the business is expected to do over the next few years, and come up with a number that says, this is what your business is worth, and having that knowledge is rather important.
Doug Marshall: [00:06:23] So, in your practice, in my practice, what we will do when we’re working with the business owner is we’ll collect three, maybe five years of historical financial data. We’ll do an interview and we’ll find out what the business owner is about and what’s going on with the business, and we’ll do a projection of what the expected cash flows are to be, and we’ll come up with a number.
Doug Marshall: [00:06:46] And there are a number of different valuation numbers. There’s equity value, and I don’t expect that we’ll go into all of this detail now, but there’s equity value, asset sale value, enterprise value, liquidation value, book value. So, there are a number of different measures and a number of different ways to look at the value of a business, but it’s important for an owner to know. Did I answer the question alright for what we wanted to do?
Mike Blake: [00:07:10] Well, I think so. So, at the end of the day, evaluation, it sounds like, is a third-party, and I think importantly, an independent view as to what the business is, at least, ostensibly worth. Let me ask this. I’m very curious to get your view on this. In your experience, do you think that more business owners are likely to think their business is more than it’s actually worth, what it would likely sell for, or less than what it would likely sell for? In other words, are business owners too optimistic or too pessimistic?
Doug Marshall: [00:07:50] I think it’s 50-50, and I think it also depends on their mood. They could have come off a crappy week, and they could say, well, I’m not that optimistic that anybody’s interested in my business, I don’t know how to transfer it, my kids aren’t interested in it. So, they don’t really know. And then, they’ll be with their buddies. I mean, business owners tend to hang with business owners, and I know this is true in the brewery business, but they’ll say, my business is worth a certain multiple of earnings or EBITDA and there will be this rule of thumb in there, but it’s not necessarily what their business is worth, and I also want to make sure that everybody understands that I can value a business for $10 million and it sells for $13 million, but that was kind of a strategic purchase, possibly.
Doug Marshall: [00:08:42] So, just because I come up with a range of value, you come up with a range of value doesn’t mean that that’s what the business is going to sell for. So, ultimately, if somebody’s looking to sell a business, which is usually why people think that they should get a valuation, they’re in a position where they may or may not get that number, but I think it’s all over the map.
Mike Blake: [00:09:05] Yeah. And I think that that point is very important, in that defining value is actually deceptively hard. And Warren Buffett would say where price is what you pay, value is what you get, we know the technical definitions of value in terms of buying and willing informed seller and buyer, and the fact of the matter is that most of the time, an asset, particularly if it’s not on a liquid public market, an asset trades for, it’s something that can be quite far from what you and I might say is fair value, and that’s because the markets aren’t all that efficient.
Doug Marshall: [00:09:51] Right. Because it’s very limited and people don’t really pay attention to that, but you also might be a minority shareholder, so your value is less. You might not have marketability of your stock, so your value is less. You might have controlling interest, so your value is more. Yeah, but lack of marketability really creates a problem to get a true value for an owner. That’s why I think it’s so important to know the value well in advance of any event that takes place so that you’re not caught off guard.
Mike Blake: [00:10:23] Now, in your practice, what is involved in a business valuation? You talked about reviewing and analyzing historical financial data up to five years, but I imagine it’s much more than that. Can you share with our audience kind of what other processes and procedures enter into a business valuation process?
Doug Marshall: [00:10:45] Well, I know that we’re going to get to this question later, but predominantly, I’m using an online algorithmic system called BizEquity. And the reason for that is that I’m trying to not have the valuation process get in the way of the answer that the business owner really, really needs. And that is approximately, how much is my business worth? And this is well in advance of when they’re looking to sell it, so that the business owner can put in three years of financial data, we can do some projections out, and we come up with a report that will give them insight into the different valuation numbers for them.
Doug Marshall: [00:11:22] And it’s important to know, because if you’re going to do a buy-sell agreement with a partner, you want to know that that business is approximately worth seven-and-a-half million dollars, and you want to know that if I need to buy out my partner, it’s going to cost me three-and-a-half, if that’s what we agreed to. So, our process is relatively simple, because we want fast, inexpensive, and non-intrusive.
Doug Marshall: [00:11:51] Typically, and a lot of the work that you do, Mike, entails a lot of time and a lot of expense, and you’re worth it, but that’s because you’re trying to grind down the numbers so that you can support it legally from a tax standpoint, or you might have a litigation matter, or you’re doing something that’s highly subjective, saying, I don’t know what the future holds, so here’s this range, if anybody knows about your practice and the things that you do.
Doug Marshall: [00:12:20] I think one of the primary reasons, that I think there are two primary reasons why business owners don’t typically get a valuation. And the first reason is time and expense. It’s just like, it’s too much time, and owners, they have drive and discipline to grow their business, they’re not looking to spend time doing this other stuff that’s not directly growing their business. And to be quite honest, since more than 90% don’t keep valuations current, 90% of business owners don’t keep valuations current, business has gotten along fine without having formal valuations done on a regular basis, right? I mean, it’s not like we’re seeing businesses collapse, because they haven’t done these valuations.
Doug Marshall: [00:13:02] You know what I mean? If they need valuations to succeed, the business would be thriving and we’d have more than 10,000 professionals doing valuations throughout the country, but that’s not the case. So, normally, and I think owners also think that the only time that I really need a valuation is when I’m contemplating doing something like a gifting program, which that’s required. Like if I’m going to sue somebody, that might be required. If I’m going to transfer ownership, that’s going to be required. So, they’re only doing it when they’re required to do it, and I think having that knowledge well in advance makes a lot of sense for them, though.
Mike Blake: [00:13:39] And you mentioned the reasons why business owners don’t do valuations, I actually think there’s a third, and I’d love to get your view on it, and that is that I think that our profession has a little bit of a credibility problem. I think that, and for some reason, our profession largely is kind of okay with this. I think we have too much of a sense of humor about it, but I think we’re too willing to cave in to the argument that value is what somebody is willing to pay for it, which I’m not going to off-ramp onto that.
Mike Blake: [00:14:13] There’s a Freudian slip there, because I could easily rant on that for an hour, but I do think that a lot of people don’t know that there are people who do what we do, and I think our profession, frankly, has done a poor job of explaining to people, to the public what goes into a business valuation or appraisal, and I think there’s a distinction there that you’re kind of illustrating very nicely, actually. And I think that our profession hasn’t done enough to say, look, actually, there is some method to the madness here, really isn’t just shaking a magic eight ball, but there is some rigor that can lead you to make better decisions if you allow it.
Doug Marshall: [00:15:03] Oh, by all means. I always talked to owners about if an unexpected opportunity comes along, how are you going to measure that opportunity if you don’t really know the value of your business, for your business? Is that going to positively or negatively impact the value of my business? And should I be keeping—sometimes, what we’ll do with owners is we’ll do what ifs.
Doug Marshall: [00:15:28] We’ll say if you change this cash flow, if you reduce this expense, if you add this payroll, how much additional revenue is that going to create? How much risk is that creating for you, the owner? How much opportunity is that creating for you with growing your wealth? And you have to be really careful with the business, because you mentioned this before, it’s an illiquid and concentrated asset, it’s unlike anything else that somebody owns on the personal side, and that creates a lot more risk. So, knowing the value does make a lot of sense.
Mike Blake: [00:16:05] So, we touched on it, but I want to make sure we hit this clearly, because I think it’s central to the conversation, and that is, what exactly are the reasons why a company would want to have a valuation of their business done on a regular basis, whether it’s annually, semi-annually, biannually? What are the reasons for that?
Doug Marshall: [00:16:27] Yeah. Even if the business is not growing, it’s just pretty steady in sales, it’s doing $10 million of sales a year, its expenses remain relatively the same, I think just the very discipline of going through the process and establishing the value for the business, which might have a little bit of variation because of external factors, the economic climate and interest rates, of course, but just being able to show that this is something you were paying attention to, I mean, it’s not too different from showing that you’ve got good books and you can account for the money over the past 5 to 10 years.
Doug Marshall: [00:17:06] That shows that you are a disciplined business person and that your business has some value based on that. You want to show that you are a well-run business. So, knowing the value also puts you in that position of just being able to make better decisions on a regular basis, and then you also understand what drives the value. Very often, we will talk about, okay, what’s your equity value and what’s your liquidation value?
Doug Marshall: [00:17:33] I think those are two important numbers for a business owner to understand when it comes to protecting the value of your business, and this is a practical matter. So, your business value might be worth $10 million as a going concern, but only 2 or $3 million if you just have to shut the doors, because you haven’t done any proper planning or you become illiquid. So, that’s the amount that’s at risk, and I think facing that risk every year motivates someone to do some planning to make sure that that’s protected.
Doug Marshall: [00:18:05] Our buddy, Chris Mercer, he talks about the 1% solution, and he talks about, you should take 1%, or thereabouts, 1% of the value of your business and carve that off as a budgeted item to pay for your attorneys, and your CPAs, and your wealth advisors, your insurance people to make sure that you are doing the planning that is protecting the wealth, helping to unlock that wealth, ultimately, of that business, and not pay more taxes. There are all sorts of ways in which you can lose money in the ultimate transaction of transferring the value, because you’re paying too much in taxes, you’re not getting as much as you should for the business, because you were disorganized in the process and you haven’t positioned the business correctly to be sold.
Mike Blake: [00:18:58] And I think one of the things you said is really smart, which is I think that in a valuation process, the why is much more important, or at least as important, but I would argue more important than the what. We’re giving you numbers in round figures—giving a client a number, I should say, your business is worth $1,000,000, the end. I mean, yeah, that’s nice, but on the other hand, your business is worth $1,000,000, but it could be worth more, because of these five—if you do these five things, which, by the way, some of them may not be very hard to do at all. That’s easily worth a multiple of the fees that were invested in the valuation in the first place.
Doug Marshall: [00:19:40] Exactly.
Mike Blake: [00:19:42] So, let me get to some of the mechanics here. I think for many people, especially if they’re approaching business valuation for the first time and they may or may not have heard of people like us that do this for a living, they probably will turn to their CPA first. And there’s a rationale to it, right? They’re financially oriented. Some CPAs are, in fact, professional business appraisers or valuation analysts. Some do it a lot, some dabble. And of course, there’s an institutional knowledge of the company, most likely, at least for some period of time. Should the first place or should a company just sort of default to turning to their CPA to do the valuation of the company for them?
Doug Marshall: [00:20:34] Well, one, if the CPA does have experience in doing valuations and has really taken the time to learn how to do it, I would say, sure, that’s not a bad place to turn, yet at the same time, I think getting a secondary objective opinion on the value of the business, the range of value on the business does make sense. Another difficult thing, and this is nothing against the CPA profession, but they’re very seasonal. And so, they go through seasons where they are 100% unavailable because of the workload. And then, there are other times when they’re available. So, it’s not really in their business model to be doing valuations. And in your firm, I mean, you’re not doing tax work anymore, right?
Mike Blake: [00:21:25] No, I never was.
Doug Marshall: [00:21:29] And Owen, so I mean, you have a different side. So, I wouldn’t object to a CPA firm that had a valuation arm in it, I don’t think that’s a problem, but here has to be that relationship and there has to be experience in doing valuations for the particular type of industries, right? So, if you’ve never done a brewery before, you’ve got a learning curve as a valuator.
Mike Blake: [00:21:56] Now, what if the company is large enough that they have a CFO or a controller, is it a good idea maybe to say, hey, you’re a CFO, I’m paying you to do finance stuff, you tell me what the business is worth?
Doug Marshall: [00:22:10] Mm-hmm. I mean, once again, they can give you a general version, the idea of what the business is worth, but then you have to look at, what is the level of objectivity here? I don’t want, as the CPA, to be the person who should be telling the owner, that you think it’s worth 20, but it’s really worth 15. I’m not sure I really want to be put in that position. And then, with people in value, people that do valuations full time, even they’re going to come with their certain set of—they’re going to have bias in how valuation should be done. They’re going to have bias toward industry.
Doug Marshall: [00:22:52] And there are the human factors that you want to get as much out of the human factor as possible. If I wake up on Monday morning and start evaluation and I did not have a very good weekend, that might color my world a little bit to where my process is going to be different. And I think the same thing can happen to a CFO, so it’s better to have somebody to come in and do something objective. I don’t think having your CFO give an estimate is a bad idea, but I also wouldn’t take the CFO off of CFO type of stuff to go through a full-blown valuation, because that is going to take time.
Mike Blake: [00:23:39] And you mentioned something that I think is really important, and that is the independence. In the CPA example, can you really trust your CPA to tell you that your baby is ugly, or are they going to be a little concerned that in doing that, that the fees for their other services might be in jeopardy, or the CFO might be concerned that his or her job might be imperiled if you come back and say, your baby is ugly, this company isn’t really worth very much?
Mike Blake: [00:24:16] And candidly, that’s something that I address here at Brady Ware. When we receive an internal referral from an existing client, one of the first questions I—the first question I ask is, is there any scenario under which the answer that we come up with would make the client mad at us? And if the answer is yes or even if it’s supposedly infinitesimally small, and it probably isn’t, it’s probably bigger than we think it is, then even I’ll refer it out, because it’s just not worth it.
Doug Marshall: [00:24:52] I hear you on that. And I’m not trying to be self-serving for the two of us saying, you shouldn’t use your CPA, you shouldn’t use your CFO, I’m saying, as is good practice, there’s a lot of reasons to look outside to get that information.
Mike Blake: [00:25:08] So, I think the most common or maybe most accessible thesis for this is to have a valuation done annually, because you’re in a mode now where this might be the year that you’re going to sell, either you just decide that you want to throw it in, or this is the year that somebody calls you on the phone and makes an offer that you don’t hang up on them on. Are there other reasons to do it annually other than just be ready for a proposal to sell?
Doug Marshall: [00:25:40] I think it’s going to be easier if you do it on an annual basis. It might not be as costly, because a lot of the information is already there, and you just have to check and see what has changed. I think the habit of it is going to make it easier if you do it every five years. It’s like, you might say, ah, we can wait another year. But doing it every year probably makes the most sense, because then, I can quickly look at a company’s financials, and say, not much has changed here, so we’re probably not going to come up with too far of a different result, but it’s good to know.
Doug Marshall: [00:26:16] And I also might want to ask, why haven’t you grown, or why did your sales fall off, or why did your expenses go higher? What’s really fascinating about a valuation is that when you look at your accounting statements, your cash flow, your net cash flow statement, your gross revenue, your balance sheet, you can kind of pick and choose what numbers you focus in on to make yourself feel better as a business owner, and we’re just human, right? But the valuation puts together all of that stuff and comes out with one number. So, it throws it all in the mix, does all the calculations, looks at the future cash flow, and it acts as a barometer. So, it doesn’t allow the owner to kind of cheat themselves by telling them a story that’s not necessarily true.
Mike Blake: [00:27:12] And you touched on something that I think is worth pausing on for a minute, which is, again, the why, and even if your business likely has remained static in value over a year or two years, whatever, in the financial markets, they have a concept called performance attribution, and I think that applies here as well, in that why the business value has changed or not changed I think is important. Is it because you did something great or not as great, or some function of your company did something great or not as great, or were you bailed out by or were you hurt by simple market movements? And that’s just something that’s environmental and it doesn’t necessarily mean that you did anything right or wrong.
Doug Marshall: [00:28:08] Mm-hmm. And I’ve had owners that have said, “How much cash should I leave in my business?” And I don’t have a specific answer for them, but they say, “If I leave this million, how does that impact the value, as opposed to taking out 750,000?” We can do a quick calculation, so they can see what happens there, and then we can kind of talk about, does it make sense to leave it in the company or take it out of the company and redeploy it in other ways? So, there are forensic things that you can do and pro forma things that you can do in valuation to do what ifs, which helps in planning for future events.
Mike Blake: [00:28:51] Now, as you’ve touched upon, sometimes, companies will need to engage a valuation or an appraisal for something that is compliance-related. It could be for a gifting event, could be for, I don’t know, stock options, 83(b) elections, something having to do with gap, take your pick. Can a client simply take a document like that or a valuation, and then rely on that as the same document for strategic positioning?
Doug Marshall: [00:29:23] Yes and no, and I don’t want to be elusive on that because every valuation has a purpose and a goal. So, if you are doing something for a state planning purposes and gifting purposes, you might want to have to be able to justify a certain value for that gifting program. That might not be the same value that you would want if you were going to go sell the company or you are going to make a strategic decision. So, I mean, the number shouldn’t be that far off, but you have to keep in mind that if you had a different purpose for the valuation, the numbers might be a little bit different.
Mike Blake: [00:30:05] Now, our term of art that we use is something you and I, meaning, and others like us is we apply what’s called a standard of value, which really just means. It’s a definition of value or a context of value. And of course, for most tax things, it’s fair market value. For most accounting things and some litigation, it’s fair value. For transactional work, it might be something called investment value or synergistic value. But when we’re talking about having a valuation done as a strategic planning document, what standard or definition of value do you typically recommend, and why?
Doug Marshall: [00:30:46] I am more going toward the neutral fair market value, because there’s a lot less baked in. Now, I mean, now, what you can do from there is you can say from the fair market value, if the valuation is 10 million, maybe there is a strategic play out there that’s 15 million, but it’s only that 15 million because there’s somebody on the other side that has a different motivation than you do possibly for keeping it.
Doug Marshall: [00:30:46] So, I just kind of stick with the fair market value, because that’s the basic. I also think that one important point that we need to keep in mind is that since there are these different standards of value in a buy-sell agreement, now, this is going a little bit off the beaten path, it is important in your legal documents to establish which standard of value you’re going to use, because those numbers can be widely varied. And if you have not defined those things, then we start to get into the litigation process between business partners, and that’s one thing that we want to avoid by doing the valuations every year.
Doug Marshall: [00:32:06] Chris Mercer talks about having a single appraiser do a—select the appraiser at the beginning of the year, value the business at the beginning of the year, and all of the partners, if there are multiple owners, agree what the price would be for a buy-sell, what the price would be if somebody wanted to get out, rather than waiting for the event, going through the process of hiring an appraiser at that point in time, and then having them come up with a number that’s a complete surprise. So, being proactive on the valuation side definitely makes a lot of sense.
Mike Blake: [00:32:43] Yeah. Let’s pause on that, and for the record, I’m a big fan of Chris Mercer’s work on that. I’ve had his book in my library for years. I’ve expanded a little bit upon what he’s written, at least in that edition, but it really is an outstanding book. And I agree, if you can agree on a single appraiser and get rid of these sort of dueling appraiser things, processes, I think that’s really a fantastic way to go. But interestingly, you bring up a scenario that I have not encountered as much, I haven’t thought of as much, frankly, and that is the business partner scenario.
Mike Blake: [00:33:23] And I want to pause on that because I’ve done my share, I’m working on my share of resolving buy-sell agreements, and as I think through a lot of those assignments, boy, a lot of them could have been resolved much more easily had there simply been a trusted party by both or more, by all stakeholders involved to perform an independent appraisal, and then that number is just sort of there, as opposed to waiting. And then, like you said, the surprise that when you get a surprise valuation that you don’t like, that’s when the next call is to the lawyers, then you’re off to the races.
Doug Marshall: [00:34:01] And now, you’re talking significant money. So, I mean, you and I own a business for $5 million. We agree that the price is 5 million. If something happens to you, I agree to buy out your spouse for two-and-a-half, and if something happens to me, you agree to buy my portion out for two-and-one-half million dollars. And so, we each have to ask ourselves the question, am I satisfied with getting two-and-a-half or having my estate get two-and-a-half million, and am I satisfied with having to pay out two-and-a-half million? But I’m dealing with that ahead of time, rather than at the time that the event occurs.
Doug Marshall: [00:34:37] So, we can—and you and I might decide, well, that’s going to be a little too rich for our blood. I constantly run into owners that do have that situation to say, “Man, our business grew fast, but I don’t think that I have the liquidity to buy out my partner.” And now, they have to plan for, what can we do? And they might structure their buyout over a period of time, because it’s going to take them a period of time. And you can go back and look at the controlling documents and save people a lot of pain if they know what the dollar number is going to be.
Mike Blake: [00:35:18] Yeah. And I also think that perhaps having an independent appraisal done or valuation done regularly on a partnership like that eliminates or greatly reduces partner arbitrage. And what I mean by that is I think, in particular, when you have buy-sell agreements that call for either a formula or a specific price at which a buyout would occur, eventually, it becomes clear to one party or the other that they would benefit very much from being on one side or the other of a buyout. And there’s at least a financial incentive, ethics aside, there’s a financial incentive to manipulate that buyout, because there’s a substantial financial benefit to you. With an independent valuation or appraisal, I think a lot of that goes away and provides for a more kind of transparent and ultimately harmonious partnership.
Doug Marshall: [00:36:24] 100% agree on that.
Mike Blake: [00:36:27] So, when you get the valuation done, who should have access to it? Right? There’s a document, a work product, usually, of some kind produced, who should have access to that?
Doug Marshall: [00:36:45] Well, I think all key stakeholders that are responsible for driving the company. And I mean, maybe that doesn’t go all the way down to the bottom, but anybody that should know and should understand that this is now being used as a strategic document to guide us forward into the future, they need to understand what that is, whether they are an owner or not. So, you could have several key people where the owner says, “I just did a valuation of my company and it’s $9 million, and my goal is to get it up to $15 million in a certain period of time, and we need to work toward that goal.” So, anybody who’s a key stakeholder in that fashion needs to understand, I think the attorney needs to understand, the accountant should have that information, family members should also have that information as well.
Mike Blake: [00:37:44] And probably, the owner’s wealth advisors as well, I would imagine.
Doug Marshall: [00:37:48] Yeah, I meant to say that. Yes, of course.
Mike Blake: [00:37:54] And that work product, is that something that the business owner should be walking these people through? Should the provider be walking people through it to make sure everybody understands? Because despite our best of intentions, some of these documents can be quite hard to read, especially if you don’t have a lot of economics and finance training. Should the owners sort of set aside time to make sure that they understand and all the other stakeholders understand them?
Doug Marshall: [00:38:30] I think it’s worth taking the time. I don’t necessarily think it is the owner’s responsibility to put that together. I don’t think it’s that hard to put together a two-page summary of the valuation, what was done, the conclusions that were drawn, and some of the major factors that influenced the valuation of that, and what it means. So, it shouldn’t be in Greek, in a difficult to explain language, but I don’t necessarily think it’s the owner’s responsibility to do that, maybe it would be the CFO’s responsibility if the company is large enough to have one.
Mike Blake: [00:39:08] Now, I don’t know if you’ve encountered this, but I encounter a number of people who already “know” at least the multiples for being paid for companies in their market. They may get that from industry associations. They may get it from bankers. They may get it from competitors who may or may not be lying to them. They may get on the golf course. With people like that. What do you say to people like that that think that they kind of know their market multiples? What’s the argument that they may want to have a valuation done anyway?
Doug Marshall: [00:39:47] Well, before I answer that question, I would say, if you’re a franchise, you probably have a pretty good idea based on how the franchise works, especially if it’s a large one. So, I think the rules of thumb multiples in those particular situations are fairly accurate. The problem that I have with general rule of thumb multiples is that they end up becoming a self-fulfilling prophecy, and that’s not good, because the valuation is still the economics of the company, how much cash flow is expected to generate, how much discretionary cash flow is available to the owner, and what’s the projected increase in the growth in that cash flow, and what’s the risk that that is not going to happen? Right?
Doug Marshall: [00:40:34] Those are the basics, right, Mike? And so, you could have a rule of thumb multiple that doesn’t make sense as it relates to the cash flow, because over time, that multiple has eroded into a self-fulfilling prophecy. And it may be to the detriment of the owner. It might say—the multiple might be telling the owner that your business is worth less, that your business is worth more. So, I think that the rule of thumb can be used after you understand the value of your company and you have something professionally done.
Mike Blake: [00:41:17] I’m talking with Doug Marshall on the topic, as should I have my business valued every year? One question I want to ask, I want to make explicit, we kind of danced around it, but I want to kind of nail it, and that is once you have a valuation in your hand, as a business owner or executive, what do you do with it? What are the next steps after you have that document?
Doug Marshall: [00:41:47] One, I would say, is, are you happy with the number? I might go to a business broker, and say, this is the valuation that I have, just in general terms, you think I could sell my company for that? That you could go to your attorney, your tax attorney, and say, hey, my business is worth this, is my estate plan in order based on the value of this business?
Doug Marshall: [00:42:19] You could go to your accountant, and say, hey, this is the value of my company, but I think that I could be a little bit more tax efficient, what could we be doing with that? So, I mean, anybody that’s going to help you make decisions about what to do for your personal planning and your business planning, you can use that document as something to stimulate some conversation and also give some insight into the conversation.
Mike Blake: [00:42:48] So, when we talk about an annual valuation, should it be treated as an update of an existing valuation or should it be considered almost a brand new blank sheet of paper kind of valuation every year? And I can see the arguments for both. The argument for one is obviously cost and efficiency, and institutional knowledge. On the other hand, the argument for sort of a de novo valuation would be to reduce the risk of bias materially impacting or influencing the valuation. Where do you fall on that?
Doug Marshall: [00:43:31] I don’t think that you have to do a brand new, clean slate every year, but maybe every five years, I would. Just say, let’s tear it all up and see what we’ve got. Let’s look at this whole thing all over again.
Mike Blake: [00:43:51] Does an annual valuation make sense for everybody? For example, are there cases where you’ve spoken to somebody and maybe they think they want an annual valuation or they’ve been told they should get one, and you sort of say, you know what, no, I don’t really think this is right for you? Has that ever happened, or what is the case—who shouldn’t necessarily have a valuation done every year?
Doug Marshall: [00:44:17] Well, if the business too much depends on one person, I don’t think that you can really get a clean, accurate valuation. And so, you’re talking about a smaller company. But I think once you get into a larger company size, where it is beyond one particular owner, I think having that knowledge is important. And I mean, I’m not trying to do the infomercial here, but I think that there is a legitimate place for the online algorithmic valuations that are kept up to date.
Doug Marshall: [00:44:47] And as long as the operator understands how these things are working and what can possibly go wrong by getting bad data into it, you can have a relatively good piece of information. I mean, you even have large accounting firms that now use independent valuation tools that are online just to confirm the stuff that they do and also to bring the cost of the valuation down for some of their clients that might not want to spend a five figure number to get a valuation on an annual basis.
Mike Blake: [00:45:21] So, here’s part of the hardest question I’m going to ask in the interview, and it’s pretty much coming at the end, if you or I do provide a valuation for a company, and then it sells for a price that’s materially different from what our conclusion was, does that mean that we are wrong?
Doug Marshall: [00:45:45] No, not in the slightest, unless you hired me to evaluate what you could sell your company for in the market conditions that exists today, but I think that’s more the role of a business broker or somebody in the M&A field, because they have connections with those people who might want to buy, who might want to pay a premium or might want to find a value in the marketplace. So, once again, our valuations are going to have a range of valuations that might differ by 20%.
Doug Marshall: [00:46:26] You might say your business is worth between 10 and $12 million. And so, if it doesn’t sell—we had one recently where the company sold for almost a third more, but a lot of that was because it had fully depreciated equipment that with the supply chain problems, they would not be able to replace that equipment. So, the equipment had significant value in addition to the company itself, the company’s ability to generate revenue. Does that make sense?
Mike Blake: [00:47:00] Yeah, it does. And it’s important, I think, and sometimes, I think it’s overlooked that nowhere in the professional standards does it say that the object of what we do is to get the right number, because as a recognition, I think one of the things our profession does well, there’s a humble recognition that there isn’t necessarily a right number to get, but one that’s credible and reliable.
Mike Blake: [00:47:29] But market conditions are idiosyncratic, and you may be selling a company under duress, for example, if it’s under a buy-sell, or there are so many things that can go wrong that aren’t—or right, frankly, that aren’t considered under the laboratory conditions of a conventional appraisal that even under the best of circumstances, I think what we do should be considered a starting point, not necessarily an ending point.
Doug Marshall: [00:47:58] And business owners deal with uncertainty all the time, so delivering them a number that is not necessarily going to be black and white, the same way that you expect their accounting to be black and white, right? I expect accounting to account for every dollar down to the penny, but we can’t do that, because there’s so much uncertainty out there in the world, but there is also a way to kind of predict what is the range of the value that is likely to be there for you at some point in time in the future or right now.
Mike Blake: [00:48:31] Doug, we’re running out of time, this has been a great conversation, but I’m sure there are questions that either some of our listeners wished that I would have asked or wish we spent more time on, if somebody wants to follow up with you about any of the topics we’ve covered today, can they do so? And if so, what’s the best way to do that?
Doug Marshall: [00:48:49] I am always happy to either have a conversation about this, answer any questions, they can email me at dougm, Doug Marshall, M is my last initial, @marshallviliesis.com, or feel free to call me on my cell, talk, text, it’s 206-605-4695.
Mike Blake: [00:49:16] That’s going to wrap it up for today’s program. I’d like to thank Doug Marshall so much for sharing his expertise with us. We will be exploring a new topic each week, so please tune in so that when you’re faced with your next business decision, you have clear vision when making it. If you enjoy these podcasts, please consider leaving a review with your favorite podcast aggregator. It helps people find us so that we can help them.
Mike Blake: [00:49:37] If you would like to engage with me on social media with my Chart of the Day and other content, I’m on LinkedIn is myself and @unblakeable on Facebook, Twitter, Clubhouse, and Instagram. Also, check out my LinkedIn group called Unblakeable’s Group That Doesn’t Suck. Once again, this is Mike Blake, our sponsor is Brady Ware & Company, and this has been the Decision Vision podcast.