Should You Rely on Comparable Business Sales in Valuing a Business?
We faced this question recently, when we valued a business for sale. Based on reviews of comparable sales (often abbreviated as “comps”) other business brokers provided opinions of maximum value that were approximately 20% less than our opinion of value. If the seller agreed with them, he’d be asking for $100,000 less for his business than we advised him it was worth.
We believe that unfortunately, unlike in residential real estate, comps of business sales are inherently unreliable.
First, there’s no accurate means of data collection for business sales (in residential real estate, the taxing authority through tax stamps, confirms the value of the sale).
Second, there are no uniform standards of accounting to which small businesses adhere.
Third, there are relatively few business sales reported to any of the databases as compared with the universe of sales made nationwide. As a result, databases of business comps will often include sales going back as much as 20 years.
Finally, and to us, this is a huge problem—the financials of a company do not represent its value. They are relevant to the company’s value but not decisive, and in some cases, they may not even be the most important factor. So, even if the information was accurate, even if the financials of all the companies were consistently created, and even if the time period was relevant, we’d hesitate to put too much reliance on comparables.
For more information on valuing companies, see http://www.entrustassociates.com/business-valuations.html.