Life Imitates Art

In 2006, a developer in Seattle's Ballard neighborhood offered Edith Macefield one million dollars for her little farmhouse. She was 84. The house was old, small, and sitting on land the developer needed for a five-story commercial project.

She declined.

So they built around her. A wall of concrete and steel rose on three sides of the 108-year-old house, leaving it wedged into the base of a shopping center like a stone in a riverbed. Photos of it went around the world. People called her a folk hero, the little old woman who stood up to big development. The story was hailed as a real life version of the animated film, Up.

By most accounts she had nothing against the project at all. She simply didn't want to leave. She had lived there for decades. Her mother had died in that house. At her age, the idea of packing up and starting somewhere new was worth more to avoid than a million dollars was worth to gain.

No appraiser on earth would have valued that house at a million. The market saw an old farmhouse. Macefield saw the place that was hers. And to her, that was the higher number.

She stayed until she died there in 2008. The house sat empty afterward, surrounded by walls.

The Endowment Effect

Macefield's house is an extreme version of something that happens every time an owner tries to sell a business.

Economists have a name for it: the endowment effect. We value things more simply because they're ours. Not because they're objectively worth more but because we own them.

The cleanest proof comes from a study at Duke University. Basketball tickets there are scarce, handed out by lottery to students who camp for days to enter. Researchers Dan Ariely and Ziv Carmon tracked what happened after the draw. Students who lost the lottery said they'd pay around 170 dollars for a ticket. Students who won said they'd sell theirs for around 2,400.

Same ticket for the same games. The only difference between the two groups was a coin flip that handed one of them ownership. Ownership alone created a 14-fold gap in value.

Now apply that to a business someone has spent fifteen years building. There's no asset more "yours" than the thing you created from nothing. Which means there's no asset where the endowment effect is more likely to take hold. The owner who can't understand why buyers won't meet their price isn't being greedy. They're feeling exactly what the winning Duke students felt, except they didn’t come by their business by luck. Their feelings come from the stress, blood, sweat, and tears required to build a business.

This is consistently one of the biggest obstacles when a business actually goes to market. The owner has a number in their head built from effort, history, and pride. The buyer has a number built from future cash flow and risk.

The gap between them isn't simply an economic one, it's a perception problem. Unfortunately, owners are often the last to see it and realize their error too late.

Here's how to close the gap before to maximize what you receive for what you’ve built.

Anchor To The Buyer, Not Your History

The valuation in your head (and heart) comes from everything you’ve put in. The years scraping by, difficult customers, sleepless nights, and unexpected expenses to name a few. All of it feels valuable because all of it was real.

A buyer doesn't care or expect to pay for any of that.

A buyer pays for what they expect to get out of the business, namely future cash flows and the risks attached to receiving it. That's the whole equation. Your history is the reason the business exists, but it's not a line item a buyer will fund.

So stop asking what the business is worth to you. Start asking what it produces for someone who isn't you. The first question is unquantifiable, because your attachment has no ceiling. The second has an answer, and the answer is the likelihood of the business generating future income.

Remove Yourself

The famous business question: “Do you work on the business or in the business?”

It’s possibly the greatest determinant of business success that I’ve seen with my clients.

Many owners don't have a business to sell. They have a job that happens to carry their name. They're the top salesperson, the final decision, the relationship every client trusts. The company runs because they run it.

To the owner, that looks like value. They're indispensable, and surely indispensable is worth something.

To a buyer, it reads as the single largest risk in the deal. If the business can't operate without you, most of what you're selling walks out the door the day you leave. Buyers know this, so they discount hard for it, or they walk.

The test is simple and often one owners are uncomfortable answering. If you disappeared for ninety days (or even a few weeks), what would happen to the business? The closer the honest answer is to "it would be fine," the more you actually own. The closer it is to "it would fall apart," the more you've been confusing yourself and your job with your company.

Don’t Fear The Truth

It is very difficult, if not impossible, to audit your own bias.

Subconsciously, I believe most business owners understand this which is why they delay getting an unbiased view.

They know their operations are brittle, their financials are a mess, and that the business is too dependent on them. The problem is that they don’t know how much a buyer will discount these realities.

But while getting a third party opinion is important, even more important is when you get it.

Most owners hide from this until the moment they're ready to sell. They avoid the appraisal, skip the diligence, and carry their inflated number in their head until they are ready to list. When they finally bring the business to market they get two shocks at once.

The first shock is how far their perception sits from reality. That one stings, but they could recover from it.

The second shock is the one that actually costs them. By the time they learn the real number, they're out of time to do anything about it. The fixes that raise a business's value, reducing owner dependence, diversifying the customer base, cleaning up the financials, building a team that runs without you, all take years to show up in the numbers a buyer trusts. You can't manufacture three years of clean, owner-independent performance in the ninety days before a sale.

An honest valuation isn't a verdict you wait to receive. It's a tool you use while you still have room to act on it. Get the outside number now, while it can still change the outcome, not at the closing table when all it can do is disappoint you.

The Next Step

The endowment effect makes you the worst possible judge of what your business is worth. Anchor to what a buyer gets, not what you put in. Make sure you're selling a business and not a job. And get an honest, outside number early enough that you can still improve it.

That last point is exactly why I built Valotare. It's an online valuation and due diligence platform that gives you an objective read on what your business is worth and shows you what a buyer's diligence will surface, while you still have time to act on it.

It's in free beta right now. If you'd rather know your real number today than be surprised by it at the worst possible moment, sign up below.

Valotare Beta

If you or someone you know is any one of the following:

• Business owner who is considering selling (even if they’re curious or may not be selling for several years)

• Business buyers

• Business brokers

I would love to have them try Valotare for free in exchange for feedback and a review if satisfied.

Forward them this issue of the Leap or send them to the following link:

Valotare Beta

My goal with The Leap is to provide you each Saturday with the knowledge, tools and lessons learned to help you get started and keep going toward building your future. 

Whether you are making the leap to startups, solo-entrepreneurship, freelancing, side hustles or other creative ventures, the tools and strategies to succeed in each are similar.