The Right Appraisal, the Right Appraiser

Believe it or not, a business appraisal may not always be necessary to sell your company; however, you may need one for any number of other reasons such as in the case of a divorce settlement, buying out a partner, or simply for a tax-related reason among many others. In any case, the type of appraisal you receive and the company performing that appraisal need to be right for the specific task at hand. Why is that important? Our guest will tell you. Ryan Kinahan is the owner and Managing Director of RK Valuation Advisory LLC. His thoughts and guidance may help you avoid leaving money on the table and/or spending too much on the wrong thing.

Questions Answered For You

  • Should a business owner looking into selling his or her business for the first time allow the acquiring company to take the first step as far as determining whether or not a comprehensive business valuation is necessary prior to doing a deal?
  • Is it necessary for a business owner to seek a company that provides specific types of valuations, i.e. for machine and equipment, as oppose to approaching an appraiser who says, "Yeah, we can handle it all. We can do all this work for you"?
  • What could happen if the business owner does not hire the right individual to do the valuation?
  • Why is it important for business owners to know the different approaches to value?

If you're going to be paying for something, you want to make sure that you can put full faith and confidence behind it. That's going to be important regardless of why you are looking at performing a valuation.

- Ryan Kinahan

Key Takeaways

  • A valuation is an independent professional opinion that can prepare a business owner in any discussion or negotiation with potential buyers. Is valuation necessary? Ultimately, the more information you are armed with, as a business owner, the better.
  • Hiring the right person with the appropriate expertise and the right experience in the industry is essential, i.e. a great real estate appraiser with credibility in your area may not have the M&E experience or tangible success necessary.
  • If you’re looking at getting a valuation done, you need to consider the checks and balances that will happen, i.e. if it’s for tax purposes, the IRS will not accept something that they believe is not done by an accredited professional.   
  • In conducting valuations, the 3 approaches below have to be considered; however, the nature of the company, the purpose of valuation and the types of assets will, in the end, dictate the approach to use.
    • Income approach – How much money is your asset generating for you?
    • Market approach - What similar assets are being bought and sold for in the market?
    • Cost approach - How much would it cost you to replicate this asset in its current condition?
  • If you need a valuation done, get an accredited professional that you can trust to do the job. You also want to make sure that you give that professional the input and the data necessary to get the job done.  Ultimately, the quality of data provided is going to have an impact on the quality of results.

Read Full Interview

Jeff: Not all valuations are the same, are neither are all the appraisers themselves. If you want to know more about getting the right appraisal from the right appraiser you've come to the right place.
 
From our studio in Southern California, with guest experts from across the country and around the world this is Deal Talk, brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.
 

Jeff: Welcome back to the web's number one content source for small business owners committed to building a business for eventual sale. Here on Deal Talk it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.
 
Valuations may not always be necessary, but if you think you may need one because of a pending merger or outright sale, or if you're looking to buy out a partner, or if you're experiencing any other kind of change that affects your business which could also affect your family and vice versa, then this program is for you. Let's get started. My guest is someone who knows a lot about valuations. Mr. Ryan Kinahan is the owner and managing director at RK Valuation Advisory LLC in Richmond, Virginia. Ryan, welcome to “Deal Talk,” sir. It's good to have you in.
 
Ryan: Thanks a lot, Jeff. Thanks for having me.

 In a certain situation where the market is changing rapidly, the market approach will probably be the most current indicator.

Jeff: Ryan before we begin, just as kind of maybe an opportunity for people to get to know a little bit more about you and your background tell us a little something that we don't know about Ryan Kinahan?
 
Ryan: Thanks Jeff. The managing director of RK Valuation Advisory, we're a valuation and appraisal company based in Richmond, Virginia. We do work across the country to provide valuations for a wide variety of purposes. There's a lot of triggering events, there a lot of times that a business owner may either come independently to realize or one of their other professional advisers being an accountant, a lawyer, and an insurance provider, someone comes to them and they realize that there's a possible benefit of a valuation. And that's when we'll often get a call.
 

Jeff: We've been told that valuations are always necessary, sometimes necessary when you're selling your company. What is your take on that? Let's just start with that as kind of an ice breaking type of question, Ryan. When a business owner is confronted with maybe an opportunity to sell his or her company for the first time, should they allow the acquiring company to take the first step as far as determining whether or not a comprehensive valuation of their business is in fact necessary prior to doing a deal?
 
Ryan: I think ultimately the more information you're armed with as a business owner, the better. You can have your individual opinions and obviously the value of a business is ultimately going to be held in the highest regard by the owner themselves, but having an independent opinion can really prepare you to go into any negotiations and discussions that you may have. It's always helpful to have that in mind, to have a third party or professional opinion with which you can both set your expectations and also have a little more ammo to go to the table.
 

Jeff: Your background really as far as providing appraisals of equipment, and machinery, and all of those types of things. And a lot of people will first and foremost think immediately of a manufacturing company and I know that you probably have a ton of experience going in to those types of businesses. But tell me, from your perspective, is it necessary for a business owner to seek out a company that specifically provides those kinds of valuations as oppose to going to an appraiser who says, "Yeah, we can handle it all. We can do all this work for you."
 
Ryan: Jeff, that's a great question and kind of the one as individual business owners, experts in their own field that the thought of an actual valuation that would be probably a pretty abstract concept. But the truth is you do it long enough you establish these relationships and it's always working hand in hand with the appraisers and valuation professionals on the other sectors of evaluation because they're usually interrelated depending on the type of company in the industry will dictate the sort of assets that are most pertinent to that industry. So you get startup companies, whether it's IT or pharmaceutical, and you're going to look at not a lot of fixed assets, it's a lot of know-how and trying to build that expertise and the copyrights, and patents...

If you think there's a situation that's triggering a need for a valuation, you're considering spending the money on it, make sure that it's someone that's accredited that you can trust... If you're spending the money on it, you want the job done properly... You also want to make sure that you're giving them the input and the data that they need to get the job done, because ultimately the quality of that data in is going to impact the results out.

Jeff: More intellectual type capital really is what you're talking about there.
 
Ryan: Exactly. A lot of those intangible assets that are going to fall under the business valuation sphere, a more mature IT company or a pharmaceutical company is going to have a lot more infrastructure, they're going to have the manufacturing operations to crank out, whether it's semi-conductors, or computer parts, or a known generic drug. And this goes across all sectors.
 
So you see it kind of just depends on the industry but regardless of that, there's usually for outside the extremes of a startup and a very mature business, or a business that's winding down, you're looking at a pie that's comprised of this intangible piece, the real estate piece, and the tangible machinery and equipment.
 
And depending on the type of company, you'll find that certain parts of that pie will be more material and more important than others.
 
It's important to find someone that they have the experience in the industry but they also know when to call in the appropriate experts, and they have those relationships. Because you can find someone that's a great real estate appraiser and with credibility in your area and locality, but they won't have the M&E experience or the tangible success of experience, you can find someone like myself. And if I'm looking at a startup IT company I know right away there's a couple of people that I rely on that do that every day. And that's their area of expertise. It's a fluid relationship to understand that the individual company that you're looking at and what's most important for that company and industry. 
 

Jeff: We know that there are shysters out there and guys and gals will make claims and they'll go out and they'll misrepresent really kind of what your industry might be about by saying that they can take on appraisal of a company including all of its physical assets such as machinery and equipment, something that you have a tremendous amount of experience doing, but they won't get it right for whatever reason Ryan. What could happen if you don't hire the right individual?
 
Ryan: At the end of the day it's how reliable is the work product that you're getting if someone's just putting a number on a piece of paper. Is there any meaning behind it? If you're going to be paying for something you want to make sure that you can put full faith and confidence behind it. That's going to be important regardless of why you are looking at performing a valuation.
 
If it's for tax purposes, the IRS certainly isn't going to take something that they don't believe it's done by an accredited professional. If you're looking at a dispute or a litigation valuation, lawyers are going to immediately dismiss out of hand anything that is not credible.
 
Accounting and financial reporting valuations, post-M&A deal, purchase price allocation where there's going to be an audit team that's going to go through and they want to know that there are certain steps that you go through a valuation process regardless of the types of assets that you're looking at you're still going through the same valuation steps and want to see a report that's either USPAP compliant or held to some other high standard.
 
So there's always going to be checks and balances if you're looking at getting a valuation done, you need to make sure that it's going to stand up to that. And there's a couple of professional organizations that are up there that people can use to vet out possible professionals. In my field, the ASA is one of the biggest ones, the American Society of Appraisers. On the business valuations the ASA certifies professionals in all three spheres both the intangible business valuation real estate and M&E, MAI is a designation for real estate appraisers.
 
You got this CPA, everyone knows CPA as accountants but they also have an ABV, I believe it's accredited business valuer designation for individuals that go through that training, and then there's a _________, a handful of others, but the idea is to make sure that you're finding someone that can show their experience and has gone through an accreditation process to vet themselves.
 

Jeff: Ryan Kinahan is the owner and managing director by the way of RK Valuation Advisory LLC, and you're hearing our conversation here on “Deal Talk.” It's nice to have you. My name is Jeff Allen. Ryan, what are some of the real variables that can really impact the valuation numbers that one will find when they receive that report from you and they get something that's completely different that they weren't expecting from you. Maybe it's less than what they were expecting.
 
Ryan: Sure. When you're looking at... Clients usually have their expectations going in and as independent professionals always looking at it from a third-party perspective of what is this actually worth. Depending on the premise or value we're often looking at what is the fair value, which sounds subjective but going through the standard procedures ultimately coming up with something at the end of the day you feel is a reasonable and accurate representation of what a willing buyer and willing seller would agree upon all things being equal.
 
So the certain things on the asset-specific basis that we look at the things that you'd expect, condition, age, capacity, location. And with that oftentimes maintenance history, how well things have been kept up, if they've changed with technology or if it's a field that's been somewhat stagnant or if it's been something where life cycles for those sorts of assets are dictated. They may still function fine but kind of the economics of the asset has transitioned away where it's an industry that's rapidly changing or technologies is affecting in a much quicker way than say in other industries.
 
And then that's on the specifics of the assets. And then if you take a step back you got macro-economic conditions. The most pertinent example right now would be in the mining industry which we see a tremendous downturn, commodity prices falling across the boards. In the past couple of years everyone was in a rush to open new mining operations and there were backlogs for orders for the major manufacturers, your Caterpillar's and Komatsu's that you couldn't get your hands on the assets to operate a mine because with prices as high as they were there was a rush to extract as much minerals from the ground in the shortest time as possible.
 
Now, you're seeing across the board commodity prices that are half, one-third, or less what they used to be. Suddenly people are shutting down operations, there's excess gear so to speak on the market and no wants to buy it because everyone is trying to exit the market. So if you've got that many sellers and no buyers you might have something that's in perfect condition. You can look at dump trucks that cost millions of dollars and people won't buy them for the cost that it would be to replace a couple of tires on a mining dump truck.
 

Jeff: What we're talking about here, you're just using this as an example. These kinds of industries obviously are pretty cyclical. So over the course of history you're going to see these undulating waves that will really kind of, I think if history is any indication, kind of determine whether or not you might be able to expect to go in there and provide a valuation that is going to be what one might consider more favorable to a business owner who is looking to sell, or maybe less favorable depending on what the marketplace looks like and what the demand for coal, or gold, or silver might be at any given time. Isn't that correct?
 
Ryan: Yeah, absolutely.

A business owner is going to see the best of the rosiest picture, they're going to see the opportunity, and they're going to downplay any weaknesses or potential shortcomings in their business. And a new perspective owner will naturally be cautious and look at what are the actual risk versus the reward. So there are two inherently competing interests.

Jeff: Let's say that a piece of equipment is on back order like you talked about, and maybe it's a specific kind of logging vehicle or something like that for example. If I've got that kind of equipment in my fleet, in my company I'm trying to get out that is going to actually make my business look particular attractive because I've already got that equipment in my fleet. No one has to go out and buy it. But it's also going to have an effect of lifting the value of my company overall would it not?
 
Ryan: Yeah, absolutely Jeff. When you have that market established in your example there and if the industry is growing around you, and there's a certain profitability that you have in the established company with these assets then that's going to pull everything up along with it. And of course the reverse would hold true as well.
 
So it just depends on as you pointed out, where you are not just the business cycle as a whole but specific to your industry. Certain industries are more subject to that, more sensitive to the economic cycle than other industries where demand may fluctuate but your consumer staples where General Mills might make more Honey Nut Cheerios when the economy's doing well but people aren't going to stop eating cereal just because the economy takes a downturn. So certainly it depends on the industry. And those ones like we've just mentioned that follow raw materials and natural resources, those are some of the most cyclical.
 

Jeff: We're talking with Ryan Kinahan. He's the owner and managing director at RK Valuation Advisory LLC. My name is Jeff Allen. We're going to continue our discussion on valuation here in just a moment. When we come back we're going to delve a little bit more deeply into the approaches to value and that's all when we return on “Deal Talk” right after this.
 
If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on the future edition of Deal Talk. Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com
Selling your business may be the most important business transaction you'll ever undertake so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way. From helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers. Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.
Jeff: Getting back now to our conversation with Ryan Kinahan, owner and managing director at RK Valuation Advisory LLC. My name is Jeff Allen. You've punched us in at “Deal Talk” and we appreciate you.
 
Ryan, glad that you've managed to really carve some time out of your schedule to join us for really what I think is an interesting discussion on valuation. We know that there are different approaches to value. Why is that important that we know that and does that have any kind of bearing on the kinds of valuations that you do and that we might receive if we call you out to our company?
 
Ryan: Sure, Jeff. At the end of the day there's three approaches to value assets whether those are intangible, real estate or M&E. And as an accredited professional you're always tasked... The first rule is you have to consider all three approaches.
 
Now, you don't have to actually use all three. They might not be applicable to a given company, industry, or situation, but you always have to consider the three. So that's your income approach, your market approach, and your cost approach.
 
And the quick and dirty way of looking at it would say income approach is how much money is the asset generating for you, the market approach would be what are other similar assets being bought and sold for on the market, and the cost approach, how much would it cost you to replicate this asset in its current condition.
 
We can expand on those if you'd like, but ultimately you have to at least consider all three of those and then in doing so there's going to be cases where certain ones will prove to be more pertinent. And again, if it's a certain situation where the market is changing rapidly, the market approach will probably be the most current indicator.
 
In other cases, when you compare that to an income approach you say, all right, suddenly the real estate market is going crazy, prices are going up and up and up because of this demand. But when we look at the actual income that's being generated from, in this case rental properties it doesn't really justify necessarily where market's at and might try and counteract that.
 
And then on the other hand, when you're looking at the cost approach, if you can replicate this asset and build a new one for a significantly discounted price then over the long-term you expect that to factor in. So we're always considering these three approaches. And depending on the nature of the client and the purpose of the valuation, and the types of the assets will dictate which of the three we end up using.

If it's for tax purposes, the IRS certainly isn't going to take something that they don't believe it's done by an accredited professional. If you're looking at a dispute or a litigation valuation, lawyers are going to immediately dismiss out of hand anything that is not credible.

Jeff: Now, definitions of value, it seems to me like that's kind of a fairly simple answer but I don't think that it's necessarily that cut dry. And there are several different definitions that we could go through, but if you could kind of parse out that terminology for us and kind of draw some lines between each of these and how they're different.
 
Ryan: When we look at the different definitions of value, it can have a significant impact on the valuation that we're doing. And that just depends on the considerations that are applied to this specific business. If it's a restructuring and turnaround job we might be looking at liquidation values, kind of some worst case scenario numbers, salvage values and kind of this downside.
 
On the other hand, in the middle of the road a typical premise that we look at is fair market value, what we're just saying. In an open market, willing buyers, willing sellers, equal equity to both, and what dollar amount would this asset change hands.
 
And then on the top end of the spectrum fair market value and continued use, keeping the asset as it sits, continuing to use it for a profitable, what we assume would be a profitable business without having to incur any additional cost to transfer the ownership to transport the asset, to install it, to get a new team up to speed with the technology of operating a new software system, any of these other sorts of things that we potentially go into transferring of assets, continued uses as just a new person stepping in on the next day and taking it over as it sits.
 

Jeff: If you could talk to us Ryan a little bit about the perceptions I guess that the business owner might have about their company and about the value of that company, and what the potential buyers out there might be actually willing to pay or accept as a fair value for that company.
 
There's often a disconnect and sometimes that disconnect is a pretty broad or wide gulf, where does the disconnect come in? Is it just a matter of a business owner will always have this rather rosy opinion of his or her own company, or is it just that sometimes there are a number of things, a number of real factors like depreciation, potentially falling sales, other types of things, that may come back and impact the results that you provide them that may prove wrong in fact, that know the valuation of your firm actually or your company isn't quite what you thought it was Mr. and Mrs. Smith.
 
Ryan: Sure. I think those are all very valid scenarios. As you say, a business owner is going to see the best of the rosiest picture, they're going to see the opportunity, and they're going to downplay any weaknesses or potential shortcomings in their business. And a new perspective owner will naturally be cautious and look at what are the actual risk versus the reward. So there are two inherently competing interests.
 
And in terms of what can impact those gaps in value in terms of the buyer vs. the seller's opinion, there's a variety of things. But when you're looking on the intangible, the business itself, the value of that looking at possibly more on the income side what are the growth assumptions, what do they think the potential for this company to make could be. And ultimately when you're looking on the income side you're looking at oftentimes your DCF approaches which are heavily influenced by these growth rates and what they expect the business to grow...
 

Jeff: What do you mean by DCF when you threw that out there. What is that exactly?
 
Ryan: Sure, discounted cash flows.

There's a couple of professional organizations that are up there that people can use to vet out possible professionals. In my field, the ASA is one of the biggest ones, the American Society of Appraisers.

Jeff: There you go.
 
Ryan: You're looking at the income into the future of the business, so their cash flows. And then using a discount rate to get that back to current, net present value. And so when we're looking at that ultimately the growth rate is going to have a major impact on what that ultimate number is. And so a few percentage points of we're going to grow at five percent versus six and a half or eight percent, it's going to have a potentially very large difference on the value that's determined there. So that's on the business or the enterprise side of it.
 
And then on the fixed asset side of it oftentimes fair value can be confused with net book value. They're two totally different terms for two different purposes. Net book value is an accounting measure. It can, in certain circumstances, equate or approximate fair value. It can also be wildly different. It depends on the assets and how they've been depreciated over time as you mentioned one possible factor there. So oftentimes when we'll see older assets that are still used in a business environment that hasn't changed a lot in an industry that's been pretty stable. These assets that are still producing buildings and equipment that are much as they've sat for a prolonged period of time they've received their proper maintenance and they're still churning out profitable product.
 
So their book value may have been written down depending on the accounting policy of that company over five, seven, ten years. Well certain industries will go in and we'll see items that are 20 years old because they're still making something the same way they always have. 
 
According to their accounting data these assets are worth nothing. They've been fully depreciated. They've got zero book value. Well, if this company's a multi-million-dollar company that's still printing out a consumer staple that's out there on their shelves, and anyone would look at it and common logic would tell you there obviously were something.
 
On the other side your net book value can be high compared to fair value if you're looking at an industry downturn or functional obsolescence we talked about earlier how technology can rapidly evolve. You were printing a product that was satisfactory three, five years ago and suddenly technology's changed and you have to adapt this equipment that you had. So you're either worth nothing or you got to ship it through the market for these sorts of assets might no longer be in the United States. It might be on the international sectors.
 
And so that's something that we see from time to time. Or a building asset that no longer fits the requirements of a pharmaceutical company because of their stringent clean room standards. 
 
These are all sorts of things that can ultimately lead you to say net book value is great for accounting purposes but it really doesn't tell the whole story. And that's where the expertise and experience of an accredited valuer comes in to look at something with an independent mindset and say, "All right, what's it really worth today as it sits?
 

Jeff: Ryan, let me ask you a question. Have you ever been faced with a situation where you go out, you complete your valuation, you send your report in. The client gets the report and they take a look at it and they say, "No, something's wrong here. This can't be right. You need to come back out."
 
Ryan: It has happened. It's been rare. The idea is that if we're on the same page going in and we understand that the full background of the business and all the considerations that are there that that shouldn't happen. And we keep an open dialogue throughout the course of valuation to make sure we're understanding all the inputs and variables. In theory that shouldn't happen. If it does, it's a case of not communicating well with the client, not getting the data we receive, or not getting the data we've requested, or not processing it correctly due to a lack of understanding.
 

Jeff: And so that said Ryan, as we kind of wrap up another edition of “Deal Talk” today and we're so glad that you've been able to join us. What are some key takeaways, just very briefly please in about 30 to 60 seconds that our listeners should have to take away from this program if they don't remember anything else from this conversation. And maybe it's even something that we didn't even touch on that you as the valuation consultant would have for them, if you have got to see them at their business they were considering a valuation.
 
Ryan: Sure. If you think there's a situation that's triggering a need for a valuation, you're considering spending the money on it make sure that it's someone that's accredited that you can trust and taking that a step further. If you're spending the money on it you want the job done properly and something that you can rely on coming with that, looking for someone that's accredited. You also want to make sure that you're giving them the input and the data that they need to get the job done, because ultimately the quality of that data in is going to impact the results out. So the more ammo background information we have the more thorough we can do our job.
 

Jeff: And Ryan, if anybody in the audience is interested in contacting RK Valuation Advisory how can they reach you and reach you directly?
 
Ryan: Sure Jeff. Our website is rkvals.com, and my email is ryan@rkvals.com. That's probably the easiest way to get in touch.
 

Jeff: Ryan Kinahan, again, we appreciate your time today and we hope that at some point in the future we can have you back on the program to kind of go into other areas where valuation is concerned. It's a very important item for discussion particularly if you're a business owner with an eye towards selling your business at some point in the future. It could be something that would come in very, very hand indeed. And again, we appreciate your joining us today on Deal Talk to discuss.
 
Ryan: Thanks again for having me Jeff.

You don't have to actually use all three. They might not be applicable to a given company, industry, or situation, but you always have to consider the three. So that's your income approach, your market approach, and your cost approach.

Jeff: That's Ryan Kinahan, owner and managing director at RK Valuation Advisory LLC. Let us know what you think about “Deal Talk,” won't you? Send us your comments to dealtalk@morganandwestfield.com. Your suggestions are welcome. That's dealtalk@morganandwestfield.com. And tell your colleagues and fellow business owners about us because we are in fact everywhere and available for everyone to catch on iTunes, Stitcher, Libsyn, and morganandwestfield.com, where you can also find the official transcript for every show available for immediate download.
 
Deal Talk is brought to you Morgan & Westfield, a nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen. Until next time, thanks so much for listening. We'll talk to you again.

While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.
 
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