What Construction Companies Need to Know about Valuation: Part 1 – Do I Need a Valuation?

Blog
October 21, 2015

Are you deliberating whether your construction company needs a valuation in the short- or long-term? Then you need an expert active in the industry.

Often a construction business owner may believe there is no immediate need for a valuation of their construction company. Other times there may be a specific and fairly urgent need. Whether you have an immediate need or not, it seems that any business owner should understand how much the company is worth. Shouldn’t you?

You may need your valuation for a number of reasons including an unsolicited offer to buy the business, a complete or partial internal management buyout, divorce of a business owner, retirement planning, and estate planning. Regardless of the reason you should absolutely engage a valuation specialist that has the right skills. What should you consider?

Value drivers vary by industry, and the skills and industry expertise required to appropriately value a construction company are not the same as the skills required for valuing other businesses such as biotech firms, professional service firms, restaurants, and other industries. While a valuation firm may have the expertise to prepare a valuation based on the traditional valuation approaches (as displayed in Figure 1 below), a sound understanding and strong working knowledge of the particular industry of the entity being valued can make all the difference.

valuation

Choosing a valuation specialist without the right industry expertise can result in an unreasonably high or low valuation for your business. For example, an inaccurate valuation may result when a valuation specialist relies too heavily (or exclusively) on a particular valuation approach.

In the context of the Market Approach, we know there are public companies that participate in the Construction and Engineering (C&E) Industry. Those companies are typically involved in many types of C&E services, whereas privately held middle market C&E firms are often narrowly focused on one particular sub-industry or deliverable. As a result, complete reliance on public company valuation multiples as a proxy for value may not be the best choice. If public company valuation metrics are used, an experienced valuation specialist will consider and adjust for how the construction contractor being valued stacks up against the public company references.

Most middle market construction contractors do not have revenue sources that are regularly recurring. This is one reason that valuation specialists need to be thoughtful in applying the Income Approach. Relying on a construction contractor’s historical revenues and profits as a basis for the valuation can be problematic for a variety of reasons. Likewise, the valuation specialist cannot blindly rely on prospective financial information provided by management. For construction contractors, reasonable application of the Income Approach may require consideration of factors such as:

  • The nature of the backlog on hand and the associated stages of completion
  • The risk associated with specific contracts, including contract type and pricing terms
  • Contractor revenue recognition methods
  • Past and future equipment needs
  • Significant change orders, claims, and potential litigation
  • Broad trends in the C&E market as well as those impacting your particular sub-industry

Understanding the entity to be valued and the valuation trends and considerations for that particular industry is extremely important in terms of valuation accuracy. The bottom line is this: you want to use a valuation expert that knows your industry and is actively involved in your industry. The result will be a valuation that is within a reasonable range of values and that can be used as a tool for making the difficult decisions that lie ahead for your construction company.

Regardless of why your construction company needs to be valued, Aronson’s experienced valuation professionals deliver solid conclusions supported by rigorous analysis and informed judgment. Our construction industry valuation reports are designed to withstand intense scrutiny – whether from the IRS in a tax compliance setting, auditors in a financial reporting setting, or cross-examination in the courtroom. The members of our Financial Advisory Services practice regularly perform complex valuation engagements of privately-held business entities for situations such as: shareholder disputes, estate planning and gifts, succession planning, purchase price allocations, and marital disputes. One or more of these matters will likely affect your construction business. Is it time to take a look?

Make sure you check out Part 2 of this series: “What Construction Companies Need to Know about Valuation: Part 2 – What Drives Value?“.

Aronson LLC’s Financial Advisory Services practice assists construction contractors with a variety of valuation and M&A-related services, including pre-acquisition due diligence and post-acquisition purchase price allocation analysis. To learn more about our platform of services, refer to our website or contact Bill Foote at 301.231.6299 or bfoote@aronsonllc.com.