Financials need to spell out your Business Value for Potential Buyers
No business owner enjoys sending 40% of businesses earnings to a shareholder who hasn’t contributed any equity to the business or produced any revenue, but has created more administrative costs for the business;
BUT, we are required by law to do so.
The only way to lessen the tax impact is to seek legal ways to reduce your business’ taxes. This is a legitimate strategy…
that may come back to haunt you later when you want the most from the sale of your business!
Businesses valuations are based on historical earnings of the business.
If the business shows no earnings, the business is not worth much more than liquidation value, so maintaining accurate records to reconstruct the business’ cash flow is critical to maximize the selling price.
Typically, business brokers review three to five years of financials with the intent of “normalizing” the cash flow produced by the business. Normalizing is the process of adding back or reducing earnings due to shareholders’ discretionary activities – in other words, the shareholders’ “tax minimization strategies.”
There isn’t a problem with minimizing your tax bill legally.
You DO, however, need to track all your strategies
so when the time comes, you have a detailed listing of the accounts and amounts that were involved in your minimization strategy to help your business broker or mergers and acquisition specialist convey your business value and results.
Without a road map of these strategies, the business valuation specialist could likely miss critical numbers to establish an accurate business value. Those omissions could dramatically impact the ultimate asking price for the business.
So how do we do it?
Some organizations report the financial operating results on an “internal book basis,” reflecting the results of normal operations, and noting “shareholder’s discretionary expenses” below operating income. This produces a true picture of the cash flow created by the business before tax minimization strategies. At tax time, the organization or accountant adjusts the “internal book” reports to “tax” reporting that reflects all the legitimate adjustments to income to calculate the business’ tax liability.
Business value is all about earnings, and potential buyers expect historical evidence of those earnings.
Without the ability to demonstrate the actual discretionary cash flow produced by the business, it is very difficult to support an appropriate asking price.
My advice is:
Detail your discretionary or “tax minimization strategies” reflected in your operating statements for at least three years prior to beginning the process of selling your business. You need to prove your historical earnings.
Without those records, the value of your business will be reduced when you are expecting the most to transfer or sell your business!