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Accounting

3 Questions to Ask Before Taking a Small Business Valuation Engagement

Business valuations of small enterprises can be lucrative for valuation professionals, but the nature of smaller businesses means you need to vet opportunities well, according to Pasquale Rafanelli, CPA/ABV, ASA, CVA, CFE.

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Business valuations of small enterprises can be lucrative for valuation professionals, but the nature of smaller businesses means you need to vet opportunities well, according to Pasquale Rafanelli, CPA/ABV, ASA, CVA, CFE.

Rafanelli, valuation manager at Grassi & Co. and a member of the CVA Exam & Grading Committee with the National Association of Certified Valuators and Analysts (NACVA), says it’s critical for valuation professionals to learn as much as possible about the business and to begin setting expectations before accepting an engagement with a smaller business.

“When a prospective client comes to you, the first thing they will ask is how much it is going to cost,” he says. Answering that question too quickly can spell trouble for both parties to the engagement. The valuation professional might either provide a low-ball estimate that doesn’t adequately compensate for the actual work required, or they might provide a number that the prospect perceives as too high because they don’t yet understand what goes into the valuation process.

Rafanelli, who will lead an upcoming webinar, “How to accurately value a small business” on Sept. 19, recommends valuation professionals ask three questions before taking on a new client and providing a fee estimate.

  1. Can I see your financials? “What I recommend doing before taking on a new engagement or giving a fee is, ask for a year or two of financial information so you can look at what’s going on in the company and what you are valuing here,” Rafanelli says. “You want to get a good understanding of the business and its operations.”

If the client doesn’t want to provide financials, he says, “You should be asking yourself, ‘Why?’” Concern about confidentiality can be addressed, but a valuation professional needs to understand in advance what kind shape the financial books are in. “Without looking at financial information, you just have your client’s word, and they just might not know what you need to give them a proper quote.”

  1. Is there any litigation? Rafanelli says that while no one likes to discuss litigation, this is important for a valuation professional to understand up front in order to determine if this is a client with whom you want to work. A prospect might have an outstanding legal case that resulted from the normal course of business, but if you find out litigation is related to the owner having done something wrong, it may change your mind about accepting the engagement or cause you to proceed with caution.
  2. What does the future look like? Rafanelli says understanding what’s ahead for the business is important for the valuation professional to understand because in some cases, it might mean that a valuation isn’t yet necessary. For example, if a client hires you to value a business for a future sale and halfway through the analysis informs you that the business lost three major clients last year and expects to lose two more this year,  it will generate serious questions about the viability of the business, much less its salability. If this issue is discussed up front, Rafanelli says, “The client and I can now intelligently discuss the situation and I can say ‘Now is the time to work on growing the business and once it turns around then look to sell it.’”

Asking these questions before an engagement saves the valuation professional headaches and also helps cultivate a reputation as someone who will be willing to address challenges and help clients succeed.

Rafanelli said he has seen steady-to-increasing demand from smaller businesses for valuations and exit planning. “The reason exit planning has grown from what I used to see is that the days of people just giving the business to their children are going away,” he says. “Most of the kids are not looking to take over the family business.”

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Mary Ellen Biery is a research specialist with Sageworks.

 

Rafanelli during the webinar will cover more aspects of working with small business valuations, including common valuation mistakes.