New Hampshire companies large and small understand the importance of conducting accurate and timely business valuations. Knowing the real-time worth of their companies is imperative for a myriad of reasons. In this week’s New Hampshire Business Review, we reach out to one of the Granite State’s most experienced firms to gain their insight.

Our expert: Jim Callahan, attorney, Shaheen & Gordon P.A., shaheengordon.com

Q: When should a company consider a business valuation?

A: Most business owners have an idea of what their company is worth. But there are several important reasons for engaging a professional to conduct an accurate assessment of a company’s value, rather than relying on speculation. These reasons include:

• Preparing for succession planning whether the plan is to sell to a third party, a family member, or key employee.

• Establishing a valuation methodology to be used to buy out a partner in the event of death, disability or a voluntary retirement.

• To establish a purchase price for a partner buy-in.

• To assist with gift and estate tax planning.

• To prepare, in advance, for a company sale where a valuation might highlight opportunities to improve profitability.

Q: What does a valuation professional look at when preparing a business valuation?

A: Consider two financial statements that a company prepares: An income — or profit and loss statement — and a balance sheet.

Balance sheet preparation is generally straightforward. Assets are recorded by category (cash and cash equivalents, receivables, inventory, equipment and intangibles), and liabilities are listed. Balance sheet valuation is often used when a company is not particularly profitable, including in liquidation.

An income statement records gross sales and then subtracts the cost of sales and overhead. The resulting number is considered pre-tax net income. Adjustments are made to account for depreciation, amortization, taxes and interest expense. The result is referred to as EBITDA (earnings before interest, taxes, depreciation and amortization), essentially a measure of profitability and a benchmark often used as the basis for a valuation.

When evaluating closely held businesses, EBITDA is frequently adjusted to account for non-essential expenses related to business operations. For example, excessive owner compensation, family member compensation, and generous perks such as expensive vehicles, sporting event tickets, country club memberships and the like are disregarded.

Once an adjusted EBITDA number is obtained, a valuation professional will research relative industry data to establish a multiple to apply to EBITDA. For example, a particular industry might have an established multiple of four times EBITDA. So, if a particular business had EBITDA of $1 million annually, the company would be valued at $4 million.

The multiple may also be affected by other unique aspects of a business’s operations. For example, a concentrated customer base might be considered a vulnerability that could have an adverse impact on the multiple. Understanding EBITDA helps a potential purchaser measure the return on a cash investment or determine how much debt service the business will support.

The purpose of the valuation is also considered. For example, if a minority shareholder is being bought out, discounts to a resulting valuation might be added to account for the lack of marketability of company stock or the lack of control afforded by a minority interest. Stockholder agreements that consider future buyouts might explicitly add these discounts.

Q: How can a law firm like Shaheen and Gordon assist with a business valuation?

A: The attorneys at Shaheen and Gordon have worked on hundreds of business transactions that require valuation services. An attorney can help you structure your transaction and identify what type of valuation professional will best serve your needs.

We can help formulate the parameters and goals of a valuation, implement recommendations that might be made by a valuation professional, and use the information you received to optimize your business planning goals.