If you own or co-own a construction business, it’s likely your most valuable asset. But the question is, just how valuable is it?
This is something you’ll need to contemplate regularly throughout your tenure because the answer will change. The value of any company rises and falls depending on various factors, such as the state of your market and the strength of the national economy. For this reason, it’s important that every construction business owner place a high value on valuation.
Perhaps the most common purpose of a valuation is to estimate a business’s value in the event of an ownership change — such as a business sale, merger, or acquisition. If your construction company has a buy-sell agreement, which is an excellent idea, it should generally include a stated valuation method if an owner departs for any reason. Valuation is also a critical part of succession planning.
Yet an ownership change isn’t the only reason to obtain a business valuation. Strategic investments — such as expanding into a new specialty or buying a large piece (or multiple pieces) of new equipment — can greatly benefit from an accurate estimate of the company’s value. As growth opportunities arise, construction businesses generally have limited resources to pursue chosen strategies. A valuation can help plot the most likely route to success.
But hold on, you might say. Why not simply rely on projections based on our trusty financial statements for strategic planning? One reason is that projections ignore the time value of money because, by definition, they describe what’s going to happen given a set of predetermined circumstances. It can be difficult to compare one set of projections against other investments also under consideration.
Valuators, however, can use your financial statements to convert basic projections into more detailed cash-flow projections and then incorporate the time value of money into your decision-making. For instance, in a net present value (NPV) analysis, a valuation professional projects each alternative investment’s expected cash flows. Then each period’s projected cash flow is discounted to its present value, using a discount rate proportionate to its risk.
If the sum of these present values — the NPV — is greater than zero, the investment is likely worthwhile. When comparing alternatives, a higher NPV is generally better.
A manageable undertaking
For many contractors, the valuation process might seem complex and time-consuming. However, with the right professional support, it’s a manageable undertaking that can offer some useful insights. Our firm can help you determine whether now is a good time to obtain a business valuation and, if so, provide whatever assistance you need.