Why Your Business Valuation Matters for Buy-Sell and Key Person Insurance

Buy-sell and key person coverage are only as accurate as the valuation behind them. Here is why a stale number quietly leaves business owners under-insured, the valuation approaches worth discussing with an accountant, and how often to revisit the figure.

The Coverage Amount Is Only as Good as the Valuation Behind It

When a buy-sell agreement or key person policy is first put in place, the coverage amount is typically tied to a valuation, or an estimate of one, at that point in time. The trouble is that businesses rarely stay still. Revenue grows, debt is taken on or paid down, new product lines are added, and the number that made sense at signing can become quietly disconnected from what the business is actually worth years later, while nobody thinks to check.

How a Valuation Quietly Goes Out of Date

Unlike a mortgage renewal or a tax filing, there is rarely a forced moment that makes a business owner revisit their valuation. Growth happens gradually, agreements are signed once and filed away, and the question of whether the number still holds up often only surfaces when a triggering event, a death, a disability, or a dispute, forces everyone to look at it closely. By then, it is too late to add coverage if the business has outgrown what was arranged.

• Revenue or profitability has changed significantly since the number was last set
• Ownership has changed, through a new partner joining or an owner exiting, since the valuation was done
• The business has taken on or paid off a meaningful amount of debt
• The buy-sell agreement or key person coverage has not been reviewed in several years
• No professional valuation was ever performed, and the figure in place was simply an estimate agreed to at signing

Valuation Approaches Worth Discussing With Your Accountant

At a high level, there are three broad ways a business is typically valued. An asset-based approach looks at the net value of the company's assets minus its liabilities, and is often used for asset-heavy businesses or holding companies. An earnings-based, or income, approach capitalizes or discounts expected future earnings or cash flow, and is common for established operating businesses with a track record of profitability. A market-based approach compares the business to sale prices of similar companies or industry valuation multiples, where comparable transaction data exists. Different approaches can produce meaningfully different numbers, which is why a qualified business valuator or accountant will often weigh more than one method depending on the nature of the business.

How Often to Revisit the Number

An insurance-planning valuation does not always need to be a full formal appraisal every year. For many businesses, it is reasonable to revisit the figure whenever the buy-sell agreement itself is reviewed, whenever an owner joins or leaves, or at a set interval discussed with the accountant, so that coverage amounts keep pace with the business rather than reflecting a snapshot from years earlier.