Have you ever wondered what your HVAC, plumbing, or electric contracting business is actually worth? This is a very important question, especially when it is time to sell the business. Many contractors aim to retire and cash out from their businesses when the time eventually comes, only to end up selling their business for way below its actual market value.
The biggest mistake you can make as a business owner that is looking to sell your business is not knowing the numbers and the value of your business. When valuing an HVAC, plumbing, or electric contracting business, you could think about the reality of the business – what it’s worth on paper – or you can look at the opportunity of the business. There are various methods that can be used to valuate a business. Professional valuation specialists are trained to use these methods to find out the current market value and potential sale value of your business. There are also a number of key factors that impact the value of your business.
Read ahead to find out more about what exactly a valuation is, what the valuation process looks like, the key factors that impact a business valuation, and the different valuation methods that are used.
Business Valuations Vs. Business Appraisals
Oftentimes, business owners can get confused between a valuation and an appraisal and use the terms interchangeably. In reality, a valuation and an appraisal are two completely different things. A business appraisal focuses only on the value of any tangible assets owned by the business. Tangible assets are those assets that are physical, such as fixed assets like office equipment, construction materials, warehouses, construction equipment, etc.
A business valuation, on the other hand, takes into account a business’s tangible assets as well as its intangible assets and potential earnings. Intangible assets are those subjective assets that are non-physical and more difficult to account for. Some examples would exclude brand recognition, patents, trademarks, customer lists, etc. As compared to an appraisal, a valuation is a much more in-depth procedure that is carried out by a team of valuation specialists. These specialists can either be a part of the business/company or externally hired.
Business valuations are usually carried out for multiple reasons but can be split into two categories: tax valuations and non-tax valuations. Tax valuations, which are done for estate tax, ESOPS, gift tax, or charitable contributions, can be much more rigid, with strict guidelines that need to be followed. Non-tax valuations are valuations done before business sales, mergers, or other buying and selling agreements. For the purpose of this article, we will mostly be talking about business valuations for the sale of HVAC, plumbing, or electric contracting businesses.
What is the Valuation Process?
The valuation process begins with getting together a team of valuation specialists. It must then be determined what the purpose of the valuation is. As we discussed previously, there can be tax and non-tax valuations. Once it has been determined what the purpose of the valuation is, then the process of gathering data begins. This includes all of the historical financial data of the business.
Historical financial data is then adjusted, and the method for valuating the business is selected. There are various methods that can be used, but three methods are more common. We will discuss these methods later on in the article. Once the valuation method is selected, the process can begin in earnest, from calculating the enterprise value to understanding the business’s balance sheet.
3 Methods That Can Be Used to Value an HVAC, Plumbing, or Electric Contracting Business
There are 3 main methods that are used when valuating businesses: the market approach, the asset approach, and the earnings approach. Depending on your business, the valuation specialists will likely choose one of these three methods to carry out the valuation. Let’s take a more detailed look at what the 3 methods entail:
The Market Approach
The market approach is almost exactly like what the name makes it out to be. It is when you compare businesses like yours to other similar businesses in the market, and depending on those businesses’ values; you determine the value of your own business. For example, if an HVAC company with sales of up to $300,000 was sold for x amount, your HVAC company with sales of $300,000 can also be sold for x amount.
Although this approach may seem relatively simple, in reality, it can be quite difficult to use. This is because there are usually not enough companies with the same size and sales as yours to compare to. You also have to work within a certain time frame, which further limits your options. While the market approach is very successful in real estate, it is not so successful in the construction industry.
The Asset Approach
The second approach, the assets approach, considers intangible assets. Most HVAC, plumbing, or electric contracting businesses do not own very valuable tangible assets, and most of their money is in their intangible assets.
While adjusting historical earnings and financial statements, you might come to the conclusion that a business will not be able to produce any profits and might not survive. If such is the case, then the intangible assets of that business hold little to no value, and the buyer of the company would prefer to value the company using the asset approach.
So, when valuing a generally unprofitable business, the market value of all assets owned by that business is taken into account under the asset approach. Meaning both the intangible assets – which are usually very valuable but not in this particular case – as well as the tangible assets – which are usually not considered but are taken into special consideration in this particular case.
The Earnings Approach
The earnings approach is actually used in the opposite case of the asset approach. It is used for a business that has shown that it is capable of producing profits and therefore has intangible assets that are very valuable.
The main premise of the earnings approach is that a specific factor is applied to the business’s earnings indicator. This factor is usually known as a multiplier and is usually applied to the earnings indicators EBITDA (earnings before interest, tax, depreciation, and amortization), pre-tax net income, or post-tax net income.
Once the multiplier is applied to the earnings indicator, the result you get is the enterprise value. The enterprise value includes all of the tangible and intangible assets of the business, giving you a valid and fair market value.
Key Factors that Impact the Value of an HVAC, Plumbing, or Electric Contracting Business
HVAC, plumbing, or electric contracting businesses are usually not very capital-intensive. This means that most of their assets are intangible. The industry is extremely competitive, with hundreds of competing companies on the market and relatively low barriers to entry. As such, one of the quickest and most convenient ways for such companies and businesses to grow is through mergers and acquisitions.
If you are looking to sell your HVAC, plumbing, or electric contracting business, then there are certain key factors that can actually impact the value of your business. Let’s take a look at what some of these factors are, and they can help you assess whether or not you are able to work to increase the value of your business.
- Number of Specialties and Certifications of the staff – most HVAC, plumbing, or electric contracting businesses specialize in the services they provide. For this reason, it is unlikely that the workers in these businesses have multiple specialties or certifications. An HVAC construction worker likely wouldn’t have expertise in plumbing work and so on. In the case that the workers in the business do have multiple specialties and certifications, this can be a factor that positively impacts the value of the company.
- The possibility of recurring revenue from renewable service agreements – larger companies usually have renewable service agreements with certain clients, meaning that anytime the clients require HVAC, plumbing, or electric contracting services, they contact the same business. This means that the business has recurring revenue. If another company buys out this business, it will ensure returning customers, increasing the business’s sale value.
- Multiple servicing licenses – As with specialties and certifications, HVAC, plumbing, or electric contracting businesses usually specialize in one service and do not own multiple licenses. In case a business does own multiple licenses, this increases its sale value.
- Workers that can train other workers – Workers that can carry out installations and repairs are valuable. However, workers that can also train other workers in installations and repairs are much more valuable.
- Available Inventory and Construction Materials – Equipment that has been used does not add much value to a business. However, inventory and construction materials that have not been put to use yet are tangible assets that can be very valuable.
- Expansion into other construction services – given that the construction industry is so competitive and most businesses compete for customers, a business that can provide multiple services to their customers would be more valuable and get more projects and revenue. Most clients would prefer to hire a single company to handle various construction services rather than multiple different companies.
- Geographical location – Where a business is located can affect the rates they charge for its services, how much they spend on raw materials, how many potential clients are available, and so on. From one location to another, the very same business could have different values. For instance a plumbing business in Toronto won’t have a same value as plumbing business for sale in Ottawa or Calgary.
These are just some factors that can negatively or positively impact the overall value of your HVAC, plumbing, or electric contracting business. Most of the factors we mentioned here were regarding intangible assets, which can play a big role in your business’s valuation.
The Bottom Line
While we have mostly gone through the process involved in valuating an HVAC, plumbing, or electric contracting business, there is much more that goes into the process than we have discussed in this article. Businesses usually carry out an appraisal or a valuation for tax purposes. The only time a valuation for non-tax purposes is carried out is when the business is going to be sold, and the owners need to know the business’s true market value.
N3 Business Advisors – Construction Industry Mergers & Acquisition Advisors
Business valuations carried out before mergers and acquisitions are usually made so by valuation specialists. If you are a business owner looking to merge or sell business, you can get in touch with N3 Business Advisors. We are an advisory firm located in Ontario, Canada, and work mostly with businesses in the construction industry, such as HVAC, plumbing, or electric contracting businesses.
At N3 Business Advisors, we provide various M&A services ranging from sell side advisory, business acquisition searches, business valuations, management buy-outs, and more. When it comes to business valuations, we work with both buying and selling companies to determine their companies’ market value.
You can get in touch with N3 Business Advisors now to schedule a confidential consultation. Visit our website for more information, or call us at 647 967 4222. Our office is located at 55 Village Centre Place, Suite 200, Mississauga, ON L4Z 1V9.
