All About Valuation | Part 1: What you should ask a valuator before engaging them

You’re a business owner or operator and, for one of many potential reasons (tax, litigation, a potential sale, etc.) you’ve decided you need a business valuation. Identifying the need is one thing, but identifying the right fit is another. Before you engage a valuator, there are a few key questions that you should ask to make sure they are the right person for the job.

1. What valuation experience do you have working with my industry?

If your business operates in a major industry segment, then you should expect your valuator to have relevant industry experience. Clearly, oil and gas experience is important in Alberta, but other key sectors include real estate, distribution, retail, professional services, agriculture, trades, and manufacturing.

Look for a broad range of full-time experience. Say you’ve got an ostrich farm, it’s not important that the valuator has experience in valuing ostrich farms, not many valuators have. Instead, ask the valuator about their broad industry experience and knowledge. Ask the valuator about industry issues in order to test their general knowledge and ability to apply their experience to your particular situation.

As well, ask your valuator about all the services they provide. Often, there are salespeople, consultants, or real estate agents who dabble in valuations but have no specific training, and they don’t make a full-time living being a professional, accredited business valuator. Does your valuator have the appropriate professional designation, a Chartered Business Valuator (CBV) as accredited with the Canadian Institute of Chartered Business Valuators? If you want a defensible valuation you can trust, ensure your valuator has the right experience and qualifications.

2. What are the various levels of services provided?

Usually, valuation services are billed on an hourly basis, but the valuator should also exhibit some flexibility in pricing to reflect the size of the business being valued and the financial circumstances of the shareholders. Valuators should be willing to outline their charge-out rates and the rates of others in their firm who may work on a project.

It’s a cost-competitive environment, so getting a low quote may be satisfying, however, the lowest up-front quote doesn’t mean the ultimate invoice will be less when hourly rates are applied. Most valuators are not going to give you a firm price up front. As valuators, we are heavily dependent on the quality of the information provided by the business being valued. There are always new things discovered during a valuation, and a valuator should be making decisions based on getting an appropriate and fair valuation in the most efficient way, not skipping important analysis or making uninformed assumptions just because the budget won’t allow it.

That said, if a client can provide the most recent year-end financial statements, a valuator should not be averse to providing a quote for services (a fee range), assuming clean accounting records and a timely provision of all accounting information requested by the valuator.

See more about the cost of valuations will be discussed in part 3 of this series (coming soon).

3. When will the report be completed?

Before a valuation can begin, valuators require a list of basic financial information which they will request from you, so being prepared is key to avoid unnecessary delays. We set a proposed date at the beginning of the valuation based on when the list of required information is provided to us. In general, it usually takes about a month to prepare a formal business valuation report, but expect that timeline to vary depending partly on how quickly you can supply the required financial information.

If you’ve found an accredited CBV with relevant industry experience and the timeline works, then it’s likely time to engage. The biggest thing you need to look out for is whether your CBV is asking you the right questions, something I’ll cover in the next chapter of this series. 


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What public market data can tell us about the valuation of private companies

Academic researchers and market analysts like public market data because it comes from the unbiased open market where value is continually assessed on an arm’s length basis by a large number of potential investors, and because it is readily measurable for most liquid, minority interests.

It is tempting and relatively easy to use financial or valuation ratios from public market data as a basis for deriving a market value for a private company. However, such an approach is difficult to apply in practice, and we discuss those difficulties in section A below.

Although an analysis of public market data may not be useful for valuing comparable private companies, such an analysis can tell us a lot about the behavior of investors and underlying valuation principles, which apply to every private market transaction.

  1. Is public market comparative data useful for valuing a private company?

Generally not[1]. Briefly, our reservations can be summed up in three broad categories:

  1. Public companies generally have larger business operations and geographic coverage. Numerous academic studies in public markets show that size matters, and that shares of larger companies are generally less volatile than smaller companies. Applying public company multiples and valuation ratios to a private company only make sense for private companies with a sufficient size to rival comparative public companies.
  1. A majority of public companies have segmented business operations that reach beyond one specific industry niche. As an example, we recently undertook a valuation of a major distributor of a particular type of construction material. Our client had the size to attract a number of public market buyers, but we could not find a single public company with comparable scope of product and clientele. It seemed that comparable companies were either privately-held (like our client), or the comparable public companies had a much broader range of business operations. These comparative companies were either distributing a wide variety of wholesale products to different markets, or they were operating in the retail market and not as wholesalers.
  1. Even if the issues in point 1 and 2 could be overcome with that perfect comparative company and available data, we believe that there could be a wide variation in results.

Recently, we undertook the valuation of a substantial privately-held drilling company with drilling and service rigs located in a number of international locations. Although this company was a private company, we did look at public market valuation ratios for three “comparable companies” that were similar in scope, size, and services.


Frankly, I was skeptical as to the usefulness of this analysis. In our experience, we have generally found that comparing select financial and valuation ratios to public companies in similar industries does not yield an appropriate precision or measurement of market value. 

In this situation, we found our experience to be confirmed, but some interesting observations arose that impart a lesson for all those seeking a valuation of their business.

  1. Comparative data – a real life example

In our real-life example, three comparable, publicly-held drilling companies were identified, consisting of Trinidad Drilling (TDG), Western Energy Services (WRG), and Akita Drilling (AKT).

Table 1 data includes:

  1. Fundamental data – oil prices, revenue, and EBITDA[2]
  2. Common valuation ratios – enterprise value to EBITDA (EV/EBITDA)[3], price to revenue[4], and price to book[5]
  3. Month-end closing stock price
  4. Briefly, in 2012 and 2013, oil prices were historically strong, with WTI in the $90 plus and $100 US plus range. During the last half of 2014, oil prices rapidly declined and the industry has struggled in 2015 and 2016. The financial data and valuation ratios reflect the market prior to, during, and immediately after the decline in commodity prices. As well, given the sudden decline in commodity prices, we plotted changing stock prices, by month, for the last six months of 2014 (in Table 2).

    1. Three major observations to be made when valuing a private company

     Observation #1 – Value is at a point in time, it can change rapidly

    From July 2014 to December 2014, stock prices for TDG decreased 51%, WRG decreased by 43%, and AKT decreased by 24%. Value changes rapidly. 

    I have found that many private company shareholders are slow to acknowledge value changes to the downside. In public markets, value can dissipate quickly – just ask shareholders of Yellow Pages Media, Nortel, or Pengrowth. The market values for these companies changed due to rapid economic disintegration and changing economics.

    Could change have been anticipated? Maybe, but the point to be made is that equity investments come with risk. This risk is amplified for private companies who operate on a smaller scale with greater dependencies on certain customers and/or suppliers, dependencies on key managers or employees, or who operate with a limited range of products.    

    A business valuation worth paying for is a valuation that focuses on risk, not just returns. Risk assessment includes an analysis of the market, the product, the competition, management, and the underlying economics. Just because a private investor made an investment in the past, at a certain price, has little or no bearing on the value today.   

    It is easy to take some numbers, apply a rule-of-thumb multiple, and arrive at a private company valuation, without any market context. However, a failure to consider current market circumstances is a real limitation and it ignores market realities and fundamental business risk.

    Observation #2 – Value is prospective, not historical

    For our comparable companies, while they were experiencing a rapid decline in stock price in the later half of 2014, the historical revenues and EBITDA were still increasing or remained the same. 

    From 2013 to 2014, for our three comparable companies, average revenue grew 16% and average EBITDA grew 7%. Yet, over that same time period, the closing stock price decreased by an average of 29%. Simply put, stock market prices (values) did not move in line with historical operating results.

    This may seem like common sense, but it is clear that market prices move based on what is anticipated, not based on historical performance. This observation applies to both public and private companies.

    If share prices only reflected historical results, then one would expect valuation ratios to be relatively consistent, year-to-year, especially for well-established companies with small operational changes. EV and EBITDA would move in line, as would stock price to revenue and stock price to book.

    However, in looking at annual changes in our basic valuation ratios (EV/EBITDA, price to revenue, or price to book) in Table 1, it is clear that the range of valuation ratios can change wildly and are moving independently of historical results during times of rapid change.

    As a valuator, I look at historical results as telling a story. It shows how a company’s fortunes can change as markets change. History helps identify the key areas of uncertainty and risk, and it helps identify potential questions and discussion points in order to better understand the business that is being valued and to identify dependencies upon key customers, suppliers, or product lines. History will show revenue and expense relationships that may be useful in order to project future performance. But of itself, history does not measure value. 

    Hence, any quick and dirty valuation of a private company that only applies a rule-of-thumb to historical results is, again, potentially unrealistic and unreliable.

    Observation #3 – Value is not precise

    We prepare private company valuation reports for investment purposes (buying or selling), for tax reasons, and for legal reasons (for judges, lawyers, and litigants). In the end, a conclusion must be drawn, and although we try our best to identify all key points and draw specific conclusions, undertaking a business valuation is not a precise science.

    The public data in Table 1 shows that for any ratio, for any given point in time, that there are variations in the valuation ratios. These variations result from the unique circumstances of each company. For example, in 2013, the EV/EBITDA valuation ratio ranges from 5.7 to 12.17. That is a significant variation in a highly relevant valuation ratio.

    As we draw our conclusions, valuators usually identify a range of value. That range may vary by 5%, or 10%, or even 20% in value. In our experience, especially in a litigation setting, litigants get carried away in the mechanical accuracy of the calculation, but I think that often misses the point. 

    A valuation is not a mechanical exercise but a thought-provoking analysis. Does the valuation make common sense? Is it logical? Does it cover all the key points? Does it indicate an understanding of the business opportunities and risks? Finally, as a hypothetical investor, would you invest in that business at that determined value?

    1. Conclusion

    Although this brief analysis dealt with three oil and gas drilling companies, the same analysis and concerns apply to almost every private company business valuation in every industry. Market comparatives are generally not relevant, or at best, should only be a secondary check where value is derived from one of the mainstream valuation methodologies.

    Instead, I encourage valuators and their clients to think beyond a formula to what makes common sense. Focus on risk assessment and understanding both the client’s operation and the market in which the client competes. Such an approach leads to better and more useful valuations.

    [1] Academic research into the application of public market data to determine the cost of capital for private companies is relatively complex. This article is not meant to detail such research and complexities.  Instead, when we refer to comparative data, we are referring simply to commonly-applied financial ratios used in business analysis and valuations.

    [2] EBITDA – earnings before interest, taxes, depreciation, and amortization

    [3] Enterprise value – market value of share equity and long-term debt combined

    [4] Price to revenue – market capitalization value compared to company revenues

    [5] Price to book – market capitalization value compared to net book value of company assets minus liabilities

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Valuing a private corporation in difficult economic times

It’s true Alberta is facing tough times, but with the exception of the 2008-09 downturn, the province had an extraordinary run of positive financial returns for the past decade. During these good times, potential investors were focused on cash flow and earnings – revenues were growing and with growth came excitement around anticipated financial returns. While I’d like to provide an optimistic outlook, the unfortunate reality is excitement over anticipated financial growth has ceased for many local companies, and many business owners remain genuinely concerned about the future. Wishful thinking has no place in these times, and the need for factual assessment and detailed analysis is more important than ever.

Broadly speaking, for most valuations, the fair market value of company shares or assets are based on:

  1. The cash flows or earnings generated by the business; or
  2. The market value of the underlying net tangible assets.

As mentioned, for many years, investors and professional business valuators relied upon cash flow and earnings as the key measure of value. However, many companies are currently not generating enough returns to justify their investment in capital assets and working capital. As a result, corporate goodwill values have rapidly diminished (witness public market stock prices for many smaller energy service providers). Valuing businesses that are facing economic uncertainty and diminishing returns requires a broader, two-step approach.

First, it is vital to focus on the balance sheet. Our recent observations show:

  • Asset-based values play a far greater role in investor decision-making. For capital-intensive businesses, investors are focused on the inventory of capital assets – when were the capital assets acquired, are the capital assets being used efficiently, are there redundancies in the capital asset fleet, and what is the ongoing investment needed to maintain these capital assets? Unless capital assets were acquired during the current economic downturn, the past purchase price of assets is generally irrelevant. If a business is marginal, but still a going concern, then capital asset values may be closer to depreciated replacement cost.
  • Off-balance sheet liabilities must not be overlooked. Contingent or unreported liabilities have often scuttled potential transactions. For example, are there future clean-up or reclamation liabilities to be dealt with? What are the ongoing lease commitments for real estate that is sitting empty? What financial commitments have been made to pay off debt?
  • Debtholders and key shareholders are more assertive, especially if operating cash flows are declining and the debtholders and shareholders have competing interests.

The second focus is on a hard – and I mean truly hard – assessment of future cash flow expectations and exposure to risk.

At Welsh Valuation, we treat a valuation as if we were asked to invest in that business ourselves. We encourage face-to-face discussions with the business owner in order to see and feel the business. We go beyond the reported financial numbers to look such aspects as key customers, key suppliers, dependencies on outside parties, competition, and reliance on key management, just to name a few. A successful business should have a vision and niche they can exploit, and understanding those possibilities and associated risks cannot be done based on a cursory glance at numbers and off-the-cuff analysis.

I see many valuators/investors assessing cash flow based on history, but what relevance does history have when revenues drop materially? In one recent transaction that we were involved in, the vendor had lost a quarter of its sales revenue and over a third of its earnings before interest, taxes, depreciation, and amortization (EBITDA) during the past year. Despite the downturn, there were sophisticated and informed potential purchasers who would have gained significant market share through an acquisition, and the vendor’s management team was willing to remain in place for an appropriate period. Despite the greater historical profitability, the potential purchaser remained focused on the current profit and next year’s projections. Tough negotiations finally led to a closing, and up-front cash was paid for assets and some earnings potential. However, to bridge the gap between historical profitability and projected earnings, the vendor and purchaser agreed to future performance-based measurements that were easily measurable and still within the control of the vendor’s management team.


While you can’t change the economy or your company’s current situation, there are a few opportunities you can take advantage of right away. Although diminished values mean there are buying opportunities for investors, for private company shareholders with limited liquidity, many are choosing to wait for the possibility of better returns and more buyers in the future. Without the intention to sell, private company shareholders can instead take advantage of lower values to refreeze shares at a much lower amount than what may have been present at the time of the original freeze. It may also be a good time to pass on shares to other family members in a succession plan. Declining values do present tax planning opportunities.

When times are tough, it presents the chance to rethink, reset, and reposition your company. Working with an experienced professional business valuator will ensure you and your company are set for success.

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Notice to reader: The comments contained in our blog posts are general thoughts gained over years of experience in valuating and consulting with private companies. In reality, there is a wide spectrum of situations and circumstances, as broad as the number of business, industries, and individual circumstances that one may encounter in business valuations and sell-side advisory services. There are no rules or common professional judgment that is applied equally to every situation. We caution any reader of our blog that no valuation conclusions are being provided, and no reliance should be placed upon the comments contained in our blogs for any business decision.