7 Ways Business Valuations are like the Loch Ness Monster

7 Ways Business Valuations are like the Loch Ness Monster

Recently, The Telegraph, a British newspaper, ran a story about a boat skipper who had found a new, deep crevice in Loch Ness using sonar equipment.  This news prompted speculation that this a was a good place for the Loch Ness Monster to hide, and inspiring a fresh wave of Nessie-hunters. 

It seems to me, upon reflection, that there are some striking parallels between searching for the Loch Ness Monster and business valuations. 

  1. They both involve a lot of searching for things you can't find.
  2. Sometimes you think people you are dealing with are all wet.
  3. They can be frightening and/or frustrating.
  4. You question whether spending your hard-earned money for this is a good idea.
  5. You wonder if you saw what you thought you saw.
  6. They can be hard to wrap your head around.
  7. Everyone has a different opinion about how to find what you are looking for.

 

If you’ve spent much time talking to valuation practitioners, that last point may seem right on target.  There are a lot of valuation practitioners out there in the wide, wide world, and they all have somewhat different ideas about how businesses should be valued, different takes on what the “right” way is to arrive at the value of a business.  If you put enough of them in the same room and ask them to talk about what they do, chances are good that there will be disagreement, sometimes pointed. 

 If you google “business valuation standards,” you come up with nearly 13,000 results.  If you google “Loch Ness Tour,” you also come up with approximately 13,000 results.  Are there really 13,000 different sets of business valuation standards?  No, of course not, not any more than there are 13,000 different tours searching for a monster on a lake that is just a few miles larger than Lake Mendota here in Madison.  (A tangential thought: has anyone ever seen a lake monster on Lake Mendota?)

There are a handful of widely-accepted sets of business valuation standards, and they have a lot of commonalities, though they differ somewhat in detail.  In general, the intent of all of them is the same.  Rather than step-by-step procedures, these standards should be thought of as more of a framework.  They cover the same basic concepts, things like the sorts of records you need to keep, how long you need to retain your files once work is complete, certain ethical considerations, and how much support you need to have for you conclusions.  They are more akin to the foundation of a house than they are to specific building plans.  Every house needs a foundation to stand on, and foundations are all fundamentally similar, but the form and shape of the house is up to the architect and builder, and can vary greatly from house to house, even when the houses have identical foundations.  The same is true of business valuation standards.  They provide the foundation for the analysis, but they don’t direct the final form of the analysis.

 Given that, what you are left with in the valuation profession once you have taken the standards into account are a lot of different foci, and a lot of different assumptions given those differing foci.  For example, given the same company, at the same time, with the same value definition, different valuators may make different decisions or different assumptions about what factors are truly important to the value of the company.  One valuator may assume that internal risk due to key person risk, which is the risk that a key person will leave the company with no clear successor to take over their duties, is a primary factor related to the company’s value.  Yet another valuator may decide that the risk of legislation that impacts the company’s markets is important, while yet another decide that the company’s growth potential is the primary factor influencing the company’s value. 

The first two points would tend to increase risk and decrease value, while the last point would tend to increase value.  All of these things influence our hypothetical company’s value, and they may all be strong influences, but you can see how different perspectives about what is most important can influence a valuation conclusion.  Is any one of these perspectives more right than the other?  Usually, no, though it is possible to make mistakes in the valuation process that lead to an incorrect conclusion. 

 One of the sets of valuation standards, The Uniform Standards of Professional Appraisal Practice, defines appraisal as “the act or process of developing an opinion of value.”  Value conclusions are a valuator’s professional opinion, not a fact.  They are well-reasoned and well-supported opinions, at least when done right, but they are still opinions.  This is the reason that two different valuators can come up with different values for the same company, even given the same information, the same valuation date, the same definition of value, and can both be right.

This, at least, is different than hunting for the Loch Ness Monster.  When hunting for Nessie, chances are quite good that you won’t find it.  When hunting for the value of a company, chances are good you will. 

 If you have Nessie-hunting stories, have seen a lake monster on Lake Mendota, or want to talk about business valuation, I’d love to hear from you.          

 

Image: ? Michael Rosskothen - Fotolia 

About the Author: Theresa Zeidler-Shonat, ASA is the Director of Valuation Services at Smith & Gesteland, LLP. At Smith & Gesteland, our advisory culture helps your privately-held business focus on what matters, and gives your business the tools it needs to flourish. Visit us at www.sgcpa.com

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