Goodwill: What is it and How Does it Impact the Sale of Your Business?
You can remember it like it was yesterday, sitting in the cubicle farm at your corporate job thinking about all the ways your company could serve your customers better. You pitched an idea or two to your bosses, but it fell on deaf ears. Deflated, you knew it was time to make a big decision. You decided to leave the comforts of your cubicle for the life of an entrepreneur.
Having taken the plunge, you went out and built a very special company. You know it’s special for a number of reasons. You have loyal customers and great employees. But you’ve also had a couple of competitors offer to buy the place from you over the years. People know you have something they don’t have and that is why they work with you, for you, and want to buy from you.
This “secret sauce” of yours is your Goodwill.
Goodwill is an accounting concept that arises in business sales. You would only know about it if you ever took an accounting course or bought/sold a business. While the technical accounting for goodwill is not important for our purposes, the concept is critical for your understanding as a business owner planning to exit.
So What is Goodwill?
Goodwill is the excess purchase price paid for a business that cannot be attributed to either identifiable tangible or intangible assets. In other words, it’s the extra amount a buyer pays for the pleasure of owning your business above and beyond what an appraiser would say the business is worth.
Tangible assets include accounts receivable, inventory, land, and property, plant, & equipment. All of these can be appraised by a third party. Identifiable intangible assets may include customer contracts, franchise agreements, territory exclusivity agreements, and non-compete agreements. These too can be appraised.
So if a business has $1 million of tangible assets and $1 million of intangible assets, and a buyer is willing to pay $3 million for the business, this means there’s $1 million of goodwill. As a seller, the more goodwill, the better!
How Do You Create Goodwill & Get Someone to Pay for it?
Creating monetizable goodwill is easier said than done, but it’s the key to maximizing the value received for your business.
Here are a few ways companies have created goodwill:
Do you have a stellar reputation (offline or online)?
When people think about your product or service, do they immediately think to call you? Or when people search for your product or service online, are you the top search result and do you have 5-star customer ratings?
Do you possess proprietary process know-how (i.e. trade secrets) that gives you an edge in your market?
When you bid on projects, can you consistently bid 10% lower than your competition and maintain the same or higher margins?
Do you have industry-leading employee retention? Are you the employer of choice in your industry and location? Does this enable you to have an edge in labor productivity in your market?
All of these are examples of conditions that could give rise to goodwill. None of them can be valued precisely, but a buyer knows there’s something there. Creating goodwill is good in theory, but it’s only worth it if you can find someone to pay for it. This is where the art of both positioning the company appropriately and running a strategic selling process comes in.
Have you built up goodwill in the value of your business? Do you want to make sure you get paid for all of the effort you put into building your market position? If so, consider reaching out to Doescher Group. We help self-made business owners level the playing field when seeking to exit on their terms.
