A business buyer's task can be stated simply: to buy a good company at a good price.
Buyers usually have many alternatives, and time is often on their side.
The job of the buyer is to make sure that a company is "as good as it looks" by analyzing financial statements and the competitive landscape of the industry.
The buyer should also question whether a company can successfully navigate a change in ownership, as companies sometimes lose key employees or customers in time of transition.
A business seller's task can be stated simply as well: to position his company to receive the best possible price in the marketplace.
Sellers need to anticipate the sale of their company well before it actually happens so that they have enough time to sell unused assets or make other necessary changes.
Early consideration of important issues will allow sellers to capitalize on favourable conditions in their industry or in the capital markets.
Both buyers and sellers need to think carefully about the extent to which a company has created an economic moat - a sustainable competitive advantage -within its industry. Business with wide moats tend to be more valuable.
Showing posts with label buying a small business. Show all posts
Showing posts with label buying a small business. Show all posts
Tuesday, 1 October 2013
Wednesday, 11 April 2012
Small Business Valuation
Basic Truths about business valuations:
1. Purpose of business valuation is to determine a PRICE RANGE, not a specific number.
2. The earnings of your company should be the basis of the valuation. The buyer buys your company for one reason only, that is, for its earnings.
3. For small businesses, using the multiples of earnings is the common method of valuation.
The earning use in small business valuations is OWNER'S BENEFIT. It is suggested that past 3 years Owner's Benefit be used.
Owner's Benefit
= Annual Pretax Profit
+ Owner's salary + Owner's perks/benefits
+ interest + depreciation.
(Contrast with: EBITDA = Earnings before interest, taxes, depreciation and amortization)
When you are selling your small business, you can hope for a higher multiple of earnings when:
1. Your business is in a growing trend.
2. You are able to provide your own finance to the buyer to purchase your business.
Saturday, 24 December 2011
Why some US biz owners think it's time to sell
Tax savings are a big factor in Joel Lederhause's quest to sell a majority stake in DiscountRamps.com. Photo: New York Times
Looking back, Cyndi Finkle wishes she had sold her craft services company, Sunday Night Dinner, early in 2008 when the economy was booming. With a track record of 30 to 50 per cent annual growth for each of the previous five years, it could have been a compelling transaction.
At the time, however, she was not emotionally ready to part with a business she had started in 1997 and built into one of the largest suppliers of services to television crews and casts in Los Angeles. When her husband suggested selling, "I burst into tears and looked at him as if he were telling me to cut off my arm," Finkle said. "Then everything changed, and I realised he was right."
But the recession hit, and Finkle's annual revenue dropped sharply along with declining television advertising and production budgets — making it impossible for her to sell.
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"I've had to work really hard the last three years to save my company and get it back, a lot of times working for free," she said. "It was no longer about building it, it was about keeping it going until things got better."
Revenue for 2011 is finally back to 2008 levels, about $1.2 million, and Finkle is eager to sell. For one thing, she purchased another business, an art studio aimed at children, backed in part by a loan from the Small Business Administration. Moreover, the coming expiration of the Bush tax cuts means that by the end of 2012, the long-term capital gains tax rate will increase to 20 per cent from the current 15 per cent (unless Congress passes legislation extending the lower rate).
Failing to sell before the end of 2012, she said, could cost her tens of thousands of dollars, "and knowing that motivates me to sell in 2012".
Pipeline of owners ready to sell
Finkle is not the only small business owner looking to the new year as an opportune time to sell. There is a pent-up pipeline of owners who have had to put off selling in recent years because of the US economy. And now that many of these companies have at least one year of profits on the books, they are more attractive to potential investors.
"A lot of these companies are having record profits because they reduced their overhead in the downturn and now sales are coming back," said John D. Emory Jr., chief executive of Emory & Co., a Milwaukee-based investment banking company that specialises in selling businesses with $10 million to $100 million in annual revenue.
"A lot of owners have told me they want to start a sale process in the first half of 2012, hoping to complete the sale before the end of 2012. Many owners, especially the leading edge of the baby boomers, wanted to sell in 2008, 2009 or 2010 and would have sold in those three years had the economy stayed strong."
But how to attract buyers?
Those looking to sell are taking steps to appeal to buyers: trimming costs, diversifying revenue, upgrading financial statements and making the chief executive's role less essential. And they are braced for the sales process to take longer than they would like.
For most owners, the business represents their largest asset, and taxes constitute their largest single expense, said Mackey McNeill, a certified public accountant "The ability to negotiate the best possible selling price and to minimise taxes determines the owner's financial fate," McNeill said.
To illustrate the impact of the expiring capital gains tax cut, McNeill created hypothetical companies that would sell for $5 million and $10 million each, assuming typical values for equipment, depreciation, real estate, inventory and goodwill. According to her calculations, and assuming Congress does not act, the owner would save $150,000 in taxes by selling a $5 million company in 2012 instead of 2013. For a $10 million business, the savings would be $325,000. These assumptions cover both S corporations and limited liability corporations, McNeill said.
The tax savings are an important factor in Joel Lederhause's quest to sell a majority stake in DiscountRamps.com, a retailer of loading, hauling and transport equipment.
"We won't continue to grow 15 to 20 per cent a year unless we have some outside capital influx," Lederhause said. "We want some money to go into the company to accelerate its growth, and take a portion of our sweat equity off the table."
The company, which projects $22 million in sales this year, keeps about $6 million in finished goods in its warehouse, which limits its growth potential. DiscountRamps.com offers 11,000 different products, and keeps at least one of each item in stock. With an infusion of capital, Lederhause said, the business could grow to more than $100 million in five years by expanding its product lines into promising new markets.
To make the company more attractive to investors, he has focused on cutting costs and maximising profitability. As a result, gross sales have grown only 6 to 8 per cent in recent years, but profits have quadrupled. "The economy hasn't slowed our growth," he said, "and that's one thing that we can point to when we go out to potential investors."
Diversifying income streams
To prepare for the sale of PartyPail, an Internet retailer, Edward Hechter and his wife, Lisa Jacobson, co-owners, have diversified the company's revenue streams, added detail and structure to the books and cross-trained senior staff — all steps aimed at making the owners less integral to the business. "As a business owner, you should always be prepared to sell," Hechter said, not only to take advantage of an opportunity but to protect your family and staff in case you are incapacitated. Despite the recession, the company's revenue grew to $3.1 million in 2010, from $2.35 million in 2009 and $850,000 in 2008. Revenue of more than $4.4 million is projected for 2011.
Hechter says he believes that a clear investor presentation is critical to any acquisition. Members of his management team restructured the income statement to break out the profit or loss from each of the six e-commerce sites that PartyPail operates. They also refined the cash flow model to better project capital requirements and revenue. Finally, they started accruing annual expenses throughout the year and setting aside cash in anticipation of those costs to smooth out the financials and not have "bad" months when lump sums were deducted.
As part of a business survival plan, he has started inviting the marketing director and general manager into vendor and supply chain partner meetings, so they are more intimately familiar with how the business works. As a test of how well the company can operate without him and his wife in the office, they took six weeks away last summer, primarily on family vacations. The test went off without a hitch.
"I have a quote on my wall from my Grandma Tillie: 'Success is when opportunity and preparation intersect,"' Hechter said, referring to the possibility of selling his company. "There's no telling what will happen," he said, adding, "Business owners don't have the luxury of saying, 'I'm going to change jobs."'
AP
Read more: http://www.smh.com.au/small-business/managing/why-some-us-biz-owners-think-its-time-to-sell-20111223-1p7xb.html#ixzz1hP2H4LlQ
Tuesday, 10 November 2009
VALUING TECHNOLOGY BUSINESSES
One of the most important questions for any business owner is “What’s my business worth?” to which, the stock answer is “It depends.” This paper explains the factors affecting the valuation of a business. This is useful not only when selling a company, but also when bringing in new investors who buy a piece of the company.
Valuation thoughts and concepts
The fundamentals underlying the valuation of a business are no different than those for other things we buy and sell such are houses, cars, old furniture, etc.
Value is:
- Based on perception: “Beauty is in the eye of the beholder.” A house that one person perceives needs a lot of work is a “fixer upper” to someone else who sees an opportunity to turn his sweat into profit. The same exists for businesses.
- Personal: “What is it worth to me.” A 1957 Chevy has more value to someone for whom this brings back fond memories than to someone who sees an old car with a rough engine and no air conditioning. A business is worth more to someone who has successfully run similar enterprises.
- Relative: “Different values for different people”. Closing a sale (both parties agreeing to a value) is as much an art as a science. It is a matter of both parties seeing benefit in making the deal.
Read on:
http://www.corp21.com/Valuation.pdf
Valuation thoughts and concepts
The fundamentals underlying the valuation of a business are no different than those for other things we buy and sell such are houses, cars, old furniture, etc.
Value is:
- Based on perception: “Beauty is in the eye of the beholder.” A house that one person perceives needs a lot of work is a “fixer upper” to someone else who sees an opportunity to turn his sweat into profit. The same exists for businesses.
- Personal: “What is it worth to me.” A 1957 Chevy has more value to someone for whom this brings back fond memories than to someone who sees an old car with a rough engine and no air conditioning. A business is worth more to someone who has successfully run similar enterprises.
- Relative: “Different values for different people”. Closing a sale (both parties agreeing to a value) is as much an art as a science. It is a matter of both parties seeing benefit in making the deal.
Read on:
http://www.corp21.com/Valuation.pdf
Valuing uncertainty
Valuing uncertainty
Author: Andrew Kent on 26 February 2009
A key issue with business valuations is the level of certainty that can be placed on future earnings. The optimistic seller wants potential growth factored into the numbers, while the pessimistic buyer would like to exclude anything that customers are not contractually committed to. With this in mind one may wonder how any transactions occur at all. Fortunately not all sellers are optimistic and not all buyers are pessimistic; indeed when the sellers are pessimistic and the buyers are optimistic, both walk away happy with the deal.
However the majority of business sales involve people who basically want a fair deal - they might fear being ripped off, they might hope for a great deal, but they generally expect a fair deal.
The issue that makes both sides feel uncomfortable is determining what a genuinely fair deal is. The underlying problem is that what is being sold is the future of the business, not its past. As the future is uncertain, so is the value of the business.
To this end, a source of comfort becomes what other people have paid for similar businesses. This can be found at http://www.valuemybusiness.com.au/ and can also be obtained from advisers and brokers that specialise in specific industries.
What many business owners find difficult to understand is why the sale value and the book value of the business are not the same thing. The fact is that these have never been the same.
Historically the difference in value has been catered for by adding a figure for goodwill if the sale price is higher than the book value. Alternately, if the sale price is lower than the book value, then the asset values are adjusted down through write-offs.
The reason that the sale value and the book value are different is because the book value is based on the businesses past, while the sale value is based on the businesses future.
In today's market, there is a strong move away from discussions of goodwill and asset prices to a focus on EBIT and EBIT multiples. A key reason for this is that the asset structure of most businesses has fundamentally changed from owning property, plant and equipment to leasing it.
As a result many businesses have ongoing liabilities that exceed their debtors and forward orders. This is not because a business is in bad shape, but rather a reflection of the timeframe for the lease commitment exceeds the timeframes for sales commitments.
So the key discussion point and negotiating point will be around the sale forecast.
Anyone in business today knows that the horizon of certainty on a sales forecast is shorter than it has ever been, so what value will you place on what is beyond the horizon?
http://www.smartcompany.com.au/selling-your-business/valuing-uncertainty.html
Author: Andrew Kent on 26 February 2009
A key issue with business valuations is the level of certainty that can be placed on future earnings. The optimistic seller wants potential growth factored into the numbers, while the pessimistic buyer would like to exclude anything that customers are not contractually committed to. With this in mind one may wonder how any transactions occur at all. Fortunately not all sellers are optimistic and not all buyers are pessimistic; indeed when the sellers are pessimistic and the buyers are optimistic, both walk away happy with the deal.
However the majority of business sales involve people who basically want a fair deal - they might fear being ripped off, they might hope for a great deal, but they generally expect a fair deal.
The issue that makes both sides feel uncomfortable is determining what a genuinely fair deal is. The underlying problem is that what is being sold is the future of the business, not its past. As the future is uncertain, so is the value of the business.
To this end, a source of comfort becomes what other people have paid for similar businesses. This can be found at http://www.valuemybusiness.com.au/ and can also be obtained from advisers and brokers that specialise in specific industries.
What many business owners find difficult to understand is why the sale value and the book value of the business are not the same thing. The fact is that these have never been the same.
Historically the difference in value has been catered for by adding a figure for goodwill if the sale price is higher than the book value. Alternately, if the sale price is lower than the book value, then the asset values are adjusted down through write-offs.
The reason that the sale value and the book value are different is because the book value is based on the businesses past, while the sale value is based on the businesses future.
In today's market, there is a strong move away from discussions of goodwill and asset prices to a focus on EBIT and EBIT multiples. A key reason for this is that the asset structure of most businesses has fundamentally changed from owning property, plant and equipment to leasing it.
As a result many businesses have ongoing liabilities that exceed their debtors and forward orders. This is not because a business is in bad shape, but rather a reflection of the timeframe for the lease commitment exceeds the timeframes for sales commitments.
So the key discussion point and negotiating point will be around the sale forecast.
Anyone in business today knows that the horizon of certainty on a sales forecast is shorter than it has ever been, so what value will you place on what is beyond the horizon?
http://www.smartcompany.com.au/selling-your-business/valuing-uncertainty.html
3 Business Valuation Methods
3 Business Valuation Methods
How to Determine What Your Business Is Worth
By Susan Ward, About.com
Definition Valuation
How much your business is worth depends on many factors, from the current state of the economy through your business’s balance sheet.
Let me say up front that I do not believe that business owners should do their own business valuation. This is too much like asking a mother how talented her child is. Neither the business owner nor the mother has the necessary distance to step back and answer the question objectively.
So to ensure that you set and get the best price when you're selling a business, I recommend getting a business valuation done by a professional, such as a Chartered Business Valuator (CBV). In Canada, you can find Business Valuators through the yellow pages or through the website of the Canadian Institute of Chartered Business Valuators.
A Business Valuator (or anyone valuating your business) will use a variety of business valuation methods to determine a fair price for your business, such as:
1) Asset-based approaches
Basically these business valuation methods total up all the investments in the business. Asset-based business valuations can be done on a going concern or on a liquidation basis.
•A going concern asset-based approach lists the business net balance sheet value of its assets and subtracts the value of its liabilities.
•A liquidation asset-based approach determines the net cash that would be received if all assets were sold and liabilities paid off.
2) Earning value approaches
These business valuation methods are predicated on the idea that a business's true value lies in its ability to produce wealth in the future. The most common earning value approach is Capitalizing Past Earning.
With this approach, a valuator determines an expected level of cash flow for the company using a company's record of past earnings, normalizes them for unusual revenue or expenses, and multiplies the expected normalized cash flows by a capitalization factor. The capitalization factor is a reflection of what rate of return a reasonable purchaser would expect on the investment, as well as a measure of the risk that the expected earnings will not be achieved.
Discounted Future Earnings is another earning value approach to business valuation where instead of an average of past earnings, an average of the trend of predicted future earnings is used and divided by the capitalization factor.
What might such capitalization rates be? In a Management Issues paper discussing "How Much Is Your Business Worth?", Grant Thornton LLP suggests:
“Well established businesses with a history of strong earnings and good market share might often trade with a capitalization rate of, say 12% to 20%. Unproven businesses in a fluctuating and volatile market tend to trade at much higher capitalization rates, say 25% to 50%.”
3) Market value approaches
Market value approaches to business valuation attempt to establish the value of your business by comparing your business to similar businesses that have recently sold. Obviously, this method is only going to work well if there are a sufficient number of similar businesses to compare.
Although the Earning Value Approach is the most popular business valuation method, for most businesses, some combination of business valuation methods will be the fairest way to set a selling price.
http://sbinfocanada.about.com/od/sellingabusiness/a/bizvaluation.htm
How to Determine What Your Business Is Worth
By Susan Ward, About.com
Definition Valuation
How much your business is worth depends on many factors, from the current state of the economy through your business’s balance sheet.
Let me say up front that I do not believe that business owners should do their own business valuation. This is too much like asking a mother how talented her child is. Neither the business owner nor the mother has the necessary distance to step back and answer the question objectively.
So to ensure that you set and get the best price when you're selling a business, I recommend getting a business valuation done by a professional, such as a Chartered Business Valuator (CBV). In Canada, you can find Business Valuators through the yellow pages or through the website of the Canadian Institute of Chartered Business Valuators.
A Business Valuator (or anyone valuating your business) will use a variety of business valuation methods to determine a fair price for your business, such as:
1) Asset-based approaches
Basically these business valuation methods total up all the investments in the business. Asset-based business valuations can be done on a going concern or on a liquidation basis.
•A going concern asset-based approach lists the business net balance sheet value of its assets and subtracts the value of its liabilities.
•A liquidation asset-based approach determines the net cash that would be received if all assets were sold and liabilities paid off.
2) Earning value approaches
These business valuation methods are predicated on the idea that a business's true value lies in its ability to produce wealth in the future. The most common earning value approach is Capitalizing Past Earning.
With this approach, a valuator determines an expected level of cash flow for the company using a company's record of past earnings, normalizes them for unusual revenue or expenses, and multiplies the expected normalized cash flows by a capitalization factor. The capitalization factor is a reflection of what rate of return a reasonable purchaser would expect on the investment, as well as a measure of the risk that the expected earnings will not be achieved.
Discounted Future Earnings is another earning value approach to business valuation where instead of an average of past earnings, an average of the trend of predicted future earnings is used and divided by the capitalization factor.
What might such capitalization rates be? In a Management Issues paper discussing "How Much Is Your Business Worth?", Grant Thornton LLP suggests:
“Well established businesses with a history of strong earnings and good market share might often trade with a capitalization rate of, say 12% to 20%. Unproven businesses in a fluctuating and volatile market tend to trade at much higher capitalization rates, say 25% to 50%.”
3) Market value approaches
Market value approaches to business valuation attempt to establish the value of your business by comparing your business to similar businesses that have recently sold. Obviously, this method is only going to work well if there are a sufficient number of similar businesses to compare.
Although the Earning Value Approach is the most popular business valuation method, for most businesses, some combination of business valuation methods will be the fairest way to set a selling price.
http://sbinfocanada.about.com/od/sellingabusiness/a/bizvaluation.htm
“WHAT IS MY BUSINESS WORTH”?
Valuing a Business
“WHAT IS MY BUSINESS WORTH”?
This is the top question of every business owner when deciding if it is time to sell. Anyone that has ever sold a home knows that an independent appraisal report had to be completed for the mortgage company to complete the sale. A business is many times more complex and usually the single largest asset a person owns. The key to making sound decisions and obtaining full value for your business is to have a viable valuation performed by an independent third-party valuation service. Without this report, a business owner should be prepared for heavy negotiations because it will be your opinion versus the buyer’s opinion.
Be wary of any business broker who prepares his own in-house valuation or tells you “what he can get” for your business. Many times they are simply telling you what they think you want to hear in order to get a listing. In addition, a buyer will place no credibility in that opinion because he has a vested interest in obtaining a higher price than can be justified.
Advanced Business Group uses the services of some of the largest, independent third-party valuation services in America to perform these reports for our clients who are trying to secure full market value for their business. They perform thousands of business valuations each year and have the largest data base of closed transactions in the nation. They know what price other businesses, like yours, are really producing. Their reports are reader friendly and can be shown to prospective buyers. They go much further than just value, they recommend which assets and liabilities to sell and the deal structure that will most likely produce a completed transaction at the best price. On top of that, they will totally justify that the recommended price is best for the business owner and yet realistic for a prospective buyer.
Business brokers have consistently produced higher prices and smoother sales with a valuation than similar businesses produced that did not have the valuation. The reasons are simple:
1) Knowing the value of your business before you go to market allows you to best package and present the company to buyers,
2) Allows us to learn as much as possible about your business without actually working there and thereby being capable of putting your best foot forward when talking with buyers, and
3) Brings a better quality buyer to the table because they know the business has good value.
Valuing a Business-For Other Reasons
Value Enhancement
Divorce
Buy/Sell Agreements
Gift/Estate Tax
ESOPS
Family Succession
Loans/Financing
Life Insurance
Shareholder Disputes
Estate Planning
Partnerships
Mergers
Raising Capital
Business & Strategic Planning
You never have to guess when it comes to something this important.
http://www.businessbuysellvalue.com/ContentPage.aspx?WebPageId=6634&GroupId=1692
“WHAT IS MY BUSINESS WORTH”?
This is the top question of every business owner when deciding if it is time to sell. Anyone that has ever sold a home knows that an independent appraisal report had to be completed for the mortgage company to complete the sale. A business is many times more complex and usually the single largest asset a person owns. The key to making sound decisions and obtaining full value for your business is to have a viable valuation performed by an independent third-party valuation service. Without this report, a business owner should be prepared for heavy negotiations because it will be your opinion versus the buyer’s opinion.
Be wary of any business broker who prepares his own in-house valuation or tells you “what he can get” for your business. Many times they are simply telling you what they think you want to hear in order to get a listing. In addition, a buyer will place no credibility in that opinion because he has a vested interest in obtaining a higher price than can be justified.
Advanced Business Group uses the services of some of the largest, independent third-party valuation services in America to perform these reports for our clients who are trying to secure full market value for their business. They perform thousands of business valuations each year and have the largest data base of closed transactions in the nation. They know what price other businesses, like yours, are really producing. Their reports are reader friendly and can be shown to prospective buyers. They go much further than just value, they recommend which assets and liabilities to sell and the deal structure that will most likely produce a completed transaction at the best price. On top of that, they will totally justify that the recommended price is best for the business owner and yet realistic for a prospective buyer.
Business brokers have consistently produced higher prices and smoother sales with a valuation than similar businesses produced that did not have the valuation. The reasons are simple:
1) Knowing the value of your business before you go to market allows you to best package and present the company to buyers,
2) Allows us to learn as much as possible about your business without actually working there and thereby being capable of putting your best foot forward when talking with buyers, and
3) Brings a better quality buyer to the table because they know the business has good value.
Valuing a Business-For Other Reasons
Value Enhancement
Divorce
Buy/Sell Agreements
Gift/Estate Tax
ESOPS
Family Succession
Loans/Financing
Life Insurance
Shareholder Disputes
Estate Planning
Partnerships
Mergers
Raising Capital
Business & Strategic Planning
You never have to guess when it comes to something this important.
http://www.businessbuysellvalue.com/ContentPage.aspx?WebPageId=6634&GroupId=1692
How To Value A Business
How To Value A Business
By Richard Parker: President of The Business Buyer Resource Center and author of How To Buy A Good Business At A Great Price ©
Accurately valuing a small business is often the most challenging part of the process for prospective business buyers. However, it doesn’t have to be an overwhelming or difficult undertaking. Above all, you should realize that valuation is an art, not a science. As a buyer, always keep in mind that the “Asking Price” is NOT the purchase price. Quite often it does not even remotely represent what the business is truly worth.
Naturally, a buyer’s valuation is usually quite different from what the seller believes their business is worth. Sellers are emotionally attached to their businesses. They usually factor their years of hard work into their calculation. Unfortunately, this has no business whatsoever being in the equation.
The challenge for you, the buyer, is to formulate a valuation that is accurate, and will prove to provide you with an acceptable return on your investment.
There are several ways to calculate the value of a business:
Asset Valuations: Calculates the value of all of the assets of a business and arrives at the appropriate price.
Liquidation Value: Determines the value of the company’s assets if it were forced to sell all of them in a short period of time (usually less than 12 months).
Income Capitalization: Future income is calculated based upon historical data and a variety of assumptions.
Income Multiple: The net income (profit/owner's benefit/seller's cash flow) of a business is subject to a certain multiple to arrive at a selling price.
Rules Of Thumb: The selling price of other “like” businesses is used as a multiple of cash flow or a percentage of revenue.
Asset-based valuations do not work for small business purchases. Assets are used to generate revenue and nothing more. If a business is "asset rich" but doesn't make much money, how valuable is the business altogether? Conversely, if a business has limited assets, such as computers and office equipment, but makes a ton of money, isn't it worth more?
Income Capitalization is generally applicable to large businesses and most often uses a factor that is far too arbitrary.
"The key to making good decisions in life is education. There has always been a void in effective buyer educational tools until the course How To Buy A Good Business At A Great Price came along."
The “Rule of Thumb” method is too general. It's hard to find any two businesses that are exactly the same. Valuation must be done based upon what you, as the buyer, can reasonably expect to generate in your pocket, so long as the business’ future is representative of the past historical financial data.
The Multiple Method is clearly the way to go. You have probably heard of businesses selling at “x times earnings”. However, this can be quite subjective because earnings can actually mean different things in different businesses. When buying a small business, every buyer wants to know how much money he or she can expect to make from the business. Therefore, the most effective number to use as the basis of your calculation is what is known as the total “Owner Benefits”.
Note: You will come across different terms on various websites and in business for sale profiles for Owner's Benefit such as Seller's Discretionary Earnings, Adjusted Earnings, and others as well. Make certain that the seller provides you with the exact formula of how they arrived at this figure - this is critical.
The Owner Benefit amount is the total dollars that you can expect to have available from the business (based upon the past financials) to pay yourself a salary, service any debt, and marklet the business assuming that everything remains status quo after you take over. The beauty is that unlike other methods (i.e. Income Cap), it does not attempt to predict the future. Nobody can do that.
(Very Important: Owner's Benefit is not cash flow and cash flow is not profit. Cash Flow is probably the most misunderstood and misused accounting term. Cash Flow is simply the amount of cash a business had at the beginning of a period, how much it had at the end of a period and what happened in between to it.)
The theory behind the Owner Benefit number is to take the business’ profits plus the owner’s salary and benefits and then to add back the non-cash expenses. History has shown that this methodology, while not bulletproof, is the most effective way to establish the valuation basis of a small business. Then, a multiple, based upon a variety of factors, is applied to this number and a valuation is established.
The Owner Benefit formula to use is:
Pre-Tax Profit + Owner’s Salary + Additional Owner Perks + Interest + Depreciation LESS Allowance for Capital Expenditures
Why Add Back Depreciation?
Depreciation is an expense that allows a business to deduct a certain amount of money each year from an asset so that its purchase value is reduced by its overall useful life. As an example: if the business buys a $25,000 truck and its useful life is estimated at 5 years, then each year the company can deduct $5000 off its income to lessen its tax burden. However, as you can see, it is not an actual cash transaction. No money is physically leaving the business or changing hands. Therefore, this amount is added back.
Why Add Back Interest?
Each business owner will have separate philosophies for borrowing for the business and how to best use borrowed funds, if necessary at all. Furthermore, in nearly all cases, the seller will pay off the business’ loans from their proceeds at selling; therefore, you will have use of these additional funds.
A Note About Add-Backs (Capital Expenditure Allowance)
After completing any add-backs, it is critical that you take into consideration the future capital requirements of the business as well as debt-service expenses. As such, in capital-intensive businesses where equipment needs replacing on a regular basis, you must deduct appropriate amounts from the Owner Benefit number in order to determine both the true value of the business as well as its ability to fund future expenditures. Under this formula, you will arrive at a "net" Owner Benefit number or true Free Cash Flow figure.
"I've just completed the purchase of an established business with a 30-year history, now retiring its second owner. Your guide was perfect in helping me select this business, especially in assessing its value. Thanks again for your personal attention to my purchase and pursuits."
Gil Takemori - San Jose, CA
What Multiple?
Typically, small businesses will sell in a one to three-times multiple of this figure. Now, this is a wide range, and some businesses will sell for more, so how do you determine what to apply? The best general rule to keep in mind und is that a one-time multiple is for those businesses where the seller is “the business”. In other words: "as out the door goes the seller, so too can go the customers". Consulting businesses, professional practices, and one-man businesses come to mind.
Businesses that have a strong track record, repeat clients, historical pattern of growth, more than 3 years in business, perhaps some proprietary item, a large customer base, or an exclusive territory, a growing industry, etc., will sell in the three-times ratio (and sometimes more). The others fall somewhere in-between.
The Rules To Apply To Establish A Multiple
The most important part of valuations is to consider this as two pieces to a puzzle. Part one is easy because it deals with the numbers and numbers don't lie (people do, and sellers especially do, but the numbers are the numbers!) You will use the historical financials to establish the Owner Benefit figure for each of the last three years or more.
Next, a weighted average must be applied to arrive at an "Average Owner Benefit" figure.
That's the first part.
The second part is to establish the actual multiple. To do so, you need to consider the fundamentals of the business, the years it has been around, the competition, the suppliers, the lease terms, the strength of the customers, the conditions of the assets, how easily the business will transition to a new owner, will customers continue to buy from you, and on and on the list goes. In other words, this part is really measuring the core of the business outside of the numbers.
Establishing the multiple is the most important aspect of the valuation exercise. It is also the part that traps most people who don't have a wealth of experience buying businesses. The good news is that with our guide, you also get access to a proprietary valuation spreadsheet that actually compiles the multiple and valuation for you. It is called the Diomo Business Assessment Method (DBA) and it was developed using over one thousand actual business investigations and valuations. It completes both pieces of the puzzle for you. All you do is enter the financials, answer some questions, and it does the rest of the work for you. (To read a review of The Diomo Business Assesment Method done by renowned valuation expert Ney Grant click here)
If You’re New At This, Here’s What To Do:
If you don’t know how to read an income statement, then learn. It’s crucial if you want to be successful in this process. Learning how to read and analyze statements is simple, and can be done quickly. Lesson # 11 in our guide will take you through this entire exercise and within an hour you will know how to read financial statements.
Determine the true Owner Benefits of the business. Be careful about the add-backs. Make certain that any benefits being added back are not necessary expenses needed to run the business.
You can only add back something that has been expensed.
Calculate an accurate multiple based upon the business’ strengths and weaknesses.
If the business is right for you, it is all right to pay a slight premium, but not too drastically overpay. Keep in mind as we teach in the course section on negotiating the deal, the value is often in the terms you get, not necessarily the price you pay.
Consider applying other valuation formulas simply as a test to your figure.
Professional Valuations: Do You Need One?
For most small businesses, hiring a professional to perform a valuation is not necessary. First of all it is expensive, and more often than not, it simply does not reflect reality. I read a valuation recently on a local company handling specialized telecom components in a very restricted marketplace doing $700,000 a year in sales and netting $100,000. The valuation started off: “The company is focused upon the B2B telephony segment which is a $42 billion industry in North America.”
I threw out the entire report after reading that one sentence. Why? How on earth can you possibly compare a $42-billion dollar industry and a $700,000 local distributor of telephone systems? Don’t waste time or money getting a professional valuation done. Let the seller do that if they so choose.
The Final Word: Accurately valuing a business is obviously a critical component to the business buying process. However, you always want to be certain that the business is right for you, not simply priced right. Knowing how to compile a valuation will not only assure you of paying the right price, but it will also demonstrate your knowledge when seeking financing for the deal. To eliminate the guesswork, make certain you use the automated valuation spreadsheets in the program How To Buy A Good Business At A Great Price©.
http://www.diomo.com/valuing-a-business.html
By Richard Parker: President of The Business Buyer Resource Center and author of How To Buy A Good Business At A Great Price ©
Accurately valuing a small business is often the most challenging part of the process for prospective business buyers. However, it doesn’t have to be an overwhelming or difficult undertaking. Above all, you should realize that valuation is an art, not a science. As a buyer, always keep in mind that the “Asking Price” is NOT the purchase price. Quite often it does not even remotely represent what the business is truly worth.
Naturally, a buyer’s valuation is usually quite different from what the seller believes their business is worth. Sellers are emotionally attached to their businesses. They usually factor their years of hard work into their calculation. Unfortunately, this has no business whatsoever being in the equation.
The challenge for you, the buyer, is to formulate a valuation that is accurate, and will prove to provide you with an acceptable return on your investment.
There are several ways to calculate the value of a business:
Asset Valuations: Calculates the value of all of the assets of a business and arrives at the appropriate price.
Liquidation Value: Determines the value of the company’s assets if it were forced to sell all of them in a short period of time (usually less than 12 months).
Income Capitalization: Future income is calculated based upon historical data and a variety of assumptions.
Income Multiple: The net income (profit/owner's benefit/seller's cash flow) of a business is subject to a certain multiple to arrive at a selling price.
Rules Of Thumb: The selling price of other “like” businesses is used as a multiple of cash flow or a percentage of revenue.
Asset-based valuations do not work for small business purchases. Assets are used to generate revenue and nothing more. If a business is "asset rich" but doesn't make much money, how valuable is the business altogether? Conversely, if a business has limited assets, such as computers and office equipment, but makes a ton of money, isn't it worth more?
Income Capitalization is generally applicable to large businesses and most often uses a factor that is far too arbitrary.
"The key to making good decisions in life is education. There has always been a void in effective buyer educational tools until the course How To Buy A Good Business At A Great Price came along."
The “Rule of Thumb” method is too general. It's hard to find any two businesses that are exactly the same. Valuation must be done based upon what you, as the buyer, can reasonably expect to generate in your pocket, so long as the business’ future is representative of the past historical financial data.
The Multiple Method is clearly the way to go. You have probably heard of businesses selling at “x times earnings”. However, this can be quite subjective because earnings can actually mean different things in different businesses. When buying a small business, every buyer wants to know how much money he or she can expect to make from the business. Therefore, the most effective number to use as the basis of your calculation is what is known as the total “Owner Benefits”.
Note: You will come across different terms on various websites and in business for sale profiles for Owner's Benefit such as Seller's Discretionary Earnings, Adjusted Earnings, and others as well. Make certain that the seller provides you with the exact formula of how they arrived at this figure - this is critical.
The Owner Benefit amount is the total dollars that you can expect to have available from the business (based upon the past financials) to pay yourself a salary, service any debt, and marklet the business assuming that everything remains status quo after you take over. The beauty is that unlike other methods (i.e. Income Cap), it does not attempt to predict the future. Nobody can do that.
(Very Important: Owner's Benefit is not cash flow and cash flow is not profit. Cash Flow is probably the most misunderstood and misused accounting term. Cash Flow is simply the amount of cash a business had at the beginning of a period, how much it had at the end of a period and what happened in between to it.)
The theory behind the Owner Benefit number is to take the business’ profits plus the owner’s salary and benefits and then to add back the non-cash expenses. History has shown that this methodology, while not bulletproof, is the most effective way to establish the valuation basis of a small business. Then, a multiple, based upon a variety of factors, is applied to this number and a valuation is established.
The Owner Benefit formula to use is:
Pre-Tax Profit + Owner’s Salary + Additional Owner Perks + Interest + Depreciation LESS Allowance for Capital Expenditures
Why Add Back Depreciation?
Depreciation is an expense that allows a business to deduct a certain amount of money each year from an asset so that its purchase value is reduced by its overall useful life. As an example: if the business buys a $25,000 truck and its useful life is estimated at 5 years, then each year the company can deduct $5000 off its income to lessen its tax burden. However, as you can see, it is not an actual cash transaction. No money is physically leaving the business or changing hands. Therefore, this amount is added back.
Why Add Back Interest?
Each business owner will have separate philosophies for borrowing for the business and how to best use borrowed funds, if necessary at all. Furthermore, in nearly all cases, the seller will pay off the business’ loans from their proceeds at selling; therefore, you will have use of these additional funds.
A Note About Add-Backs (Capital Expenditure Allowance)
After completing any add-backs, it is critical that you take into consideration the future capital requirements of the business as well as debt-service expenses. As such, in capital-intensive businesses where equipment needs replacing on a regular basis, you must deduct appropriate amounts from the Owner Benefit number in order to determine both the true value of the business as well as its ability to fund future expenditures. Under this formula, you will arrive at a "net" Owner Benefit number or true Free Cash Flow figure.
"I've just completed the purchase of an established business with a 30-year history, now retiring its second owner. Your guide was perfect in helping me select this business, especially in assessing its value. Thanks again for your personal attention to my purchase and pursuits."
Gil Takemori - San Jose, CA
What Multiple?
Typically, small businesses will sell in a one to three-times multiple of this figure. Now, this is a wide range, and some businesses will sell for more, so how do you determine what to apply? The best general rule to keep in mind und is that a one-time multiple is for those businesses where the seller is “the business”. In other words: "as out the door goes the seller, so too can go the customers". Consulting businesses, professional practices, and one-man businesses come to mind.
Businesses that have a strong track record, repeat clients, historical pattern of growth, more than 3 years in business, perhaps some proprietary item, a large customer base, or an exclusive territory, a growing industry, etc., will sell in the three-times ratio (and sometimes more). The others fall somewhere in-between.
The Rules To Apply To Establish A Multiple
The most important part of valuations is to consider this as two pieces to a puzzle. Part one is easy because it deals with the numbers and numbers don't lie (people do, and sellers especially do, but the numbers are the numbers!) You will use the historical financials to establish the Owner Benefit figure for each of the last three years or more.
Next, a weighted average must be applied to arrive at an "Average Owner Benefit" figure.
That's the first part.
The second part is to establish the actual multiple. To do so, you need to consider the fundamentals of the business, the years it has been around, the competition, the suppliers, the lease terms, the strength of the customers, the conditions of the assets, how easily the business will transition to a new owner, will customers continue to buy from you, and on and on the list goes. In other words, this part is really measuring the core of the business outside of the numbers.
Establishing the multiple is the most important aspect of the valuation exercise. It is also the part that traps most people who don't have a wealth of experience buying businesses. The good news is that with our guide, you also get access to a proprietary valuation spreadsheet that actually compiles the multiple and valuation for you. It is called the Diomo Business Assessment Method (DBA) and it was developed using over one thousand actual business investigations and valuations. It completes both pieces of the puzzle for you. All you do is enter the financials, answer some questions, and it does the rest of the work for you. (To read a review of The Diomo Business Assesment Method done by renowned valuation expert Ney Grant click here)
If You’re New At This, Here’s What To Do:
If you don’t know how to read an income statement, then learn. It’s crucial if you want to be successful in this process. Learning how to read and analyze statements is simple, and can be done quickly. Lesson # 11 in our guide will take you through this entire exercise and within an hour you will know how to read financial statements.
Determine the true Owner Benefits of the business. Be careful about the add-backs. Make certain that any benefits being added back are not necessary expenses needed to run the business.
You can only add back something that has been expensed.
Calculate an accurate multiple based upon the business’ strengths and weaknesses.
If the business is right for you, it is all right to pay a slight premium, but not too drastically overpay. Keep in mind as we teach in the course section on negotiating the deal, the value is often in the terms you get, not necessarily the price you pay.
Consider applying other valuation formulas simply as a test to your figure.
Professional Valuations: Do You Need One?
For most small businesses, hiring a professional to perform a valuation is not necessary. First of all it is expensive, and more often than not, it simply does not reflect reality. I read a valuation recently on a local company handling specialized telecom components in a very restricted marketplace doing $700,000 a year in sales and netting $100,000. The valuation started off: “The company is focused upon the B2B telephony segment which is a $42 billion industry in North America.”
I threw out the entire report after reading that one sentence. Why? How on earth can you possibly compare a $42-billion dollar industry and a $700,000 local distributor of telephone systems? Don’t waste time or money getting a professional valuation done. Let the seller do that if they so choose.
The Final Word: Accurately valuing a business is obviously a critical component to the business buying process. However, you always want to be certain that the business is right for you, not simply priced right. Knowing how to compile a valuation will not only assure you of paying the right price, but it will also demonstrate your knowledge when seeking financing for the deal. To eliminate the guesswork, make certain you use the automated valuation spreadsheets in the program How To Buy A Good Business At A Great Price©.
http://www.diomo.com/valuing-a-business.html
Buying a business
Buying a business
Buying a business can be a big step forward - but can also turn out to be a big disaster even for large corporations. The main pitfalls to acquiring a business are the same no matter what the size of the business that is being bought.
In this section we aim to cover the aspects of approaching a target business, completion of due diligence, negotiating the purchase and settlement once the deal is complete.
Approaching A Business
Due Diligence
Professional Advisors
Initial Offer, Risks and Submitting Offer
Heads of Agreement
Detailed Due Diligence
Historical information
Check on the major balance sheet items
Completing Due Diligence
Getting to the final terms
Following Completion
Approaching a business with view to Acquisition
The primary aim is to convince the vendor that he really wants to sell his business to you. With this in mind the purchaser needs to establish that he is a credible purchaser.
The buyer should initially register their interest in purchasing the business. The target will usually have instructed professional advisor's to sell the business therefore it is the advisor's that should be approached initially not the management.
The advisor's will require the purchaser to explain what their current business is (or the background of the purchaser if they do not currently have a business), why they are interested in that business, how they intend to purchase the business and if funds are currently available or how they will be obtained.
Integrity and future plans will often be extremely important to any vendor particularly if they have built their business up with the current workforce.
During discussions with the vendor and his advisors, the purchaser should attempt to evaluate whether the vendor needs to sell the business and if so what are the required timescales. Is money the prime motivation for selling and will the existing management and workforce remain involved in the business? These factors will have a bearing on the possible offer price.
Read more here:
http://www.alphalimited.co.uk/business-briefs/business-valuations-buying-a-business.htm
Buying a business can be a big step forward - but can also turn out to be a big disaster even for large corporations. The main pitfalls to acquiring a business are the same no matter what the size of the business that is being bought.
In this section we aim to cover the aspects of approaching a target business, completion of due diligence, negotiating the purchase and settlement once the deal is complete.
Approaching A Business
Due Diligence
Professional Advisors
Initial Offer, Risks and Submitting Offer
Heads of Agreement
Detailed Due Diligence
Historical information
Check on the major balance sheet items
Completing Due Diligence
Getting to the final terms
Following Completion
Approaching a business with view to Acquisition
The primary aim is to convince the vendor that he really wants to sell his business to you. With this in mind the purchaser needs to establish that he is a credible purchaser.
The buyer should initially register their interest in purchasing the business. The target will usually have instructed professional advisor's to sell the business therefore it is the advisor's that should be approached initially not the management.
The advisor's will require the purchaser to explain what their current business is (or the background of the purchaser if they do not currently have a business), why they are interested in that business, how they intend to purchase the business and if funds are currently available or how they will be obtained.
Integrity and future plans will often be extremely important to any vendor particularly if they have built their business up with the current workforce.
During discussions with the vendor and his advisors, the purchaser should attempt to evaluate whether the vendor needs to sell the business and if so what are the required timescales. Is money the prime motivation for selling and will the existing management and workforce remain involved in the business? These factors will have a bearing on the possible offer price.
Read more here:
http://www.alphalimited.co.uk/business-briefs/business-valuations-buying-a-business.htm
****How much is your Business worth and how can you increase its value?
Valuing a business
How much is your Business worth and how can you increase its value? These are the two questions which should be foremost in the business owners mind.
The worth of a business really depends upon how much money a purchaser can make from it compared to the risks involved in taking it on. Past profitability and asset values tend to be just the starting point and it is often the more intangible factors such as key business relationships, key personnel etc. which provide the most value.
Why Do We Value The Business?
What Affects Valuations?
Valuation Methods
Intangible Issues
Why Do We Value The Business?
There are four main reasons for obtaining a business valuation
1) To help buy or sell a business
By understanding the valuation process it can enable a business owner to
•Take steps to improve the real or perceived value of the business
•Decide the best time to buy or sell a business
•Negotiate better terms
•Complete a purchase more quickly
There is a better chance of a sale being completed if both the buyer and seller enter the process with realistic expectations
2) To assist in getting others to invest in the business particularly through equity
•A valuation of the business can help in agreeing a share price for new shares being issued
3) To create an internal market for shares
•A valuation can help buying or selling shares in a business at a fair price particularly when for example, a director is retiring and wishes to sell his shares
4) As a vehicle in helping to provide motivation for management
Regular valuations of the company is a good discipline which can:
•Provide a measurement yardstick for management performance when they see how they are increasing the net worth of the company
•Enables management to focus on important issues
•Help to expose areas of the business which need changing
All companies that are listed on a stock exchange have the quoted share price as a constant indicator of how well a company is doing. Unlisted companies need to do this in a slightly different way
What Affects Valuations?
There are three basic criteria which can affect the valuation of a business
1) The circumstances of a valuation
•An ongoing business can be valued in a number of ways (see later)
•A ‘forced sale’ will down value a company eg should an owner manager need to retire through ill health he may have to take the first offer that comes along. This is known as a fire sale.
•If the business is being wound up the break up value will be the net of the realisable value of the assets less liabilities outstanding
2) What is the value of the tangible assets of the business?
•A business which owns property or machinery for example will have substantial tangible assets
•Often businesses have no tangible assets beyond the value of its office equipment. This is particularly true of many service companies such as accountants and insurers.
3) What is the age of the business?
•A fairly new business may well have a negative net asset value but have an extremely high valuation in terms of future profitability especially where there are substantial long term contracts in place
Valuation Methods
Whatever the business is valued at with any techniques it must be remembered that this is a guide only. The true value of a business is what the purchaser is willing to pay for it . To arrive at this figure buyers will use various valuation methods and often a combination of methods. The main valuation methods are based upon:
1) Assets
This method would be appropriate if the business in question has significant tangible assets eg. a property company.
Basically the value of all the assets (both fixed and current) are added together and then the total of the business liabilities are subtracted from these to produce an asset valuation. The starting point for an asset valuation is to take the assets that are stated in the latest accounts (This is known as the ‘net book value’). This is refined to reflect the economic reality, for example, property prices may have increased substantially but their increase may not be reflected in the accounts, stock held may be old and have to be sold at a substantial discount or debts within the business may be ‘bad’ and therefore not likely to be paid.
2) Price/Earnings ratio
It would be common to use this method where a business is making sustainable profits which it has demonstrated over a number of years.
The price/earnings ratio (Known as the P/E ratio) is calculated as the value of a business divided by its profits after tax. Once the appropriate P/E ratio has been decided upon it is multiplied by the businesses most recent profits, its average profits over x number of years or on the calculated future profits(where contracts are in place and higher future profits can be justified).
P/E ratios are normally used to value businesses with an established history.
It should be noted that quoted companies will have a higher P/E ratio than unquoted. This is because their shares are much easier to buy and sell as there is a ready made market place and this therefore makes them much more attractive to potential investors.
P/E ratios are often adjusted by commercial circumstances, for example a higher forecast profit growth will result in a higher P/E ratio as will businesses which have constantly earned profits
3) Discounted future cash flows
This calculation is appropriate for businesses which are forecasting a steady or increasing cashflow in future years possibly as a result of an heavy investment programme. This method is the most technical way of valuing a business and relies heavily on assumptions regarding long term business conditions.
The main uses of this method are for cash generating businesses which are stable and mature, eg a publishing company with a substantial catalogue of best selling titles.
Where a business can inspire confidence in its long term prospects this method will underline the businesses solid credentials.
4) Costs of Entry
This method values the business with reference to the probable costs involved to start up a similar business from scratch. Costs included in the valuation would include purchasing similar assets on the open market, developing its products and processes, recruiting and training employees and building up the customer base. The business would also benefit from any cost savings that could be made by for example, using better technology or locating the business in a lower cost area with a cheaper labour pool. Once this is evaluated the business is then able to make a comparative assessment which can be based on a more realistic scenario of the cheaper alternatives.
Intangible Issues
As stated at the beginning, a key source of value to the business can often be things which cannot be measured.
•Key relationships
A key example cited was strong relationships with key customers or suppliers eg where an extremely good relationship has been developed with a key supplier by paying on time, supplying key forecast information to enable stocks in the supply chain to be kept to a minimum or providing technical expertise to develop jointly key components.
•Management Stability
This may be a critical decision in the potential value of a business - particularly in owner managed businesses - where key information about the business resides with the owner. Should he leave then the business would be worth far less eg the profitability of a design agency may plummet if the key creative person leaves or if key sales people leave and take their accounts with them.
•Restrictive Covenants
These terms in employees contracts could add value to a business by ensuring that key personnel are restricted from moving elsewhere or conversely could reduce the value to a potential buyer if they intend to bring their own management team in.
•Risks
The more potential risks that there are from the purchasers point of view, the lower the valuation will be.
Specific actions can be taken to build a more valuable business
•Setting up good systems eg good accurate management accounts. Good systems make nasty surprises unlikely.
•Ensure that sales are spread across a wide customer base. Where there are few large customers the potential for disaster from the loss of just one is increased substantially.
•Ensure that key customers and suppliers are tied in with contracts and mutual dependence.
•Exposure to other external factors such as interest or exchange rates should be minimised.
http://www.alphalimited.co.uk/business-briefs/business-valuations-valuing-a-business.htm
How much is your Business worth and how can you increase its value? These are the two questions which should be foremost in the business owners mind.
The worth of a business really depends upon how much money a purchaser can make from it compared to the risks involved in taking it on. Past profitability and asset values tend to be just the starting point and it is often the more intangible factors such as key business relationships, key personnel etc. which provide the most value.
Why Do We Value The Business?
What Affects Valuations?
Valuation Methods
Intangible Issues
Why Do We Value The Business?
There are four main reasons for obtaining a business valuation
1) To help buy or sell a business
By understanding the valuation process it can enable a business owner to
•Take steps to improve the real or perceived value of the business
•Decide the best time to buy or sell a business
•Negotiate better terms
•Complete a purchase more quickly
There is a better chance of a sale being completed if both the buyer and seller enter the process with realistic expectations
2) To assist in getting others to invest in the business particularly through equity
•A valuation of the business can help in agreeing a share price for new shares being issued
3) To create an internal market for shares
•A valuation can help buying or selling shares in a business at a fair price particularly when for example, a director is retiring and wishes to sell his shares
4) As a vehicle in helping to provide motivation for management
Regular valuations of the company is a good discipline which can:
•Provide a measurement yardstick for management performance when they see how they are increasing the net worth of the company
•Enables management to focus on important issues
•Help to expose areas of the business which need changing
All companies that are listed on a stock exchange have the quoted share price as a constant indicator of how well a company is doing. Unlisted companies need to do this in a slightly different way
What Affects Valuations?
There are three basic criteria which can affect the valuation of a business
1) The circumstances of a valuation
•An ongoing business can be valued in a number of ways (see later)
•A ‘forced sale’ will down value a company eg should an owner manager need to retire through ill health he may have to take the first offer that comes along. This is known as a fire sale.
•If the business is being wound up the break up value will be the net of the realisable value of the assets less liabilities outstanding
2) What is the value of the tangible assets of the business?
•A business which owns property or machinery for example will have substantial tangible assets
•Often businesses have no tangible assets beyond the value of its office equipment. This is particularly true of many service companies such as accountants and insurers.
3) What is the age of the business?
•A fairly new business may well have a negative net asset value but have an extremely high valuation in terms of future profitability especially where there are substantial long term contracts in place
Valuation Methods
Whatever the business is valued at with any techniques it must be remembered that this is a guide only. The true value of a business is what the purchaser is willing to pay for it . To arrive at this figure buyers will use various valuation methods and often a combination of methods. The main valuation methods are based upon:
1) Assets
This method would be appropriate if the business in question has significant tangible assets eg. a property company.
Basically the value of all the assets (both fixed and current) are added together and then the total of the business liabilities are subtracted from these to produce an asset valuation. The starting point for an asset valuation is to take the assets that are stated in the latest accounts (This is known as the ‘net book value’). This is refined to reflect the economic reality, for example, property prices may have increased substantially but their increase may not be reflected in the accounts, stock held may be old and have to be sold at a substantial discount or debts within the business may be ‘bad’ and therefore not likely to be paid.
2) Price/Earnings ratio
It would be common to use this method where a business is making sustainable profits which it has demonstrated over a number of years.
The price/earnings ratio (Known as the P/E ratio) is calculated as the value of a business divided by its profits after tax. Once the appropriate P/E ratio has been decided upon it is multiplied by the businesses most recent profits, its average profits over x number of years or on the calculated future profits(where contracts are in place and higher future profits can be justified).
P/E ratios are normally used to value businesses with an established history.
It should be noted that quoted companies will have a higher P/E ratio than unquoted. This is because their shares are much easier to buy and sell as there is a ready made market place and this therefore makes them much more attractive to potential investors.
P/E ratios are often adjusted by commercial circumstances, for example a higher forecast profit growth will result in a higher P/E ratio as will businesses which have constantly earned profits
3) Discounted future cash flows
This calculation is appropriate for businesses which are forecasting a steady or increasing cashflow in future years possibly as a result of an heavy investment programme. This method is the most technical way of valuing a business and relies heavily on assumptions regarding long term business conditions.
The main uses of this method are for cash generating businesses which are stable and mature, eg a publishing company with a substantial catalogue of best selling titles.
Where a business can inspire confidence in its long term prospects this method will underline the businesses solid credentials.
4) Costs of Entry
This method values the business with reference to the probable costs involved to start up a similar business from scratch. Costs included in the valuation would include purchasing similar assets on the open market, developing its products and processes, recruiting and training employees and building up the customer base. The business would also benefit from any cost savings that could be made by for example, using better technology or locating the business in a lower cost area with a cheaper labour pool. Once this is evaluated the business is then able to make a comparative assessment which can be based on a more realistic scenario of the cheaper alternatives.
Intangible Issues
As stated at the beginning, a key source of value to the business can often be things which cannot be measured.
•Key relationships
A key example cited was strong relationships with key customers or suppliers eg where an extremely good relationship has been developed with a key supplier by paying on time, supplying key forecast information to enable stocks in the supply chain to be kept to a minimum or providing technical expertise to develop jointly key components.
•Management Stability
This may be a critical decision in the potential value of a business - particularly in owner managed businesses - where key information about the business resides with the owner. Should he leave then the business would be worth far less eg the profitability of a design agency may plummet if the key creative person leaves or if key sales people leave and take their accounts with them.
•Restrictive Covenants
These terms in employees contracts could add value to a business by ensuring that key personnel are restricted from moving elsewhere or conversely could reduce the value to a potential buyer if they intend to bring their own management team in.
•Risks
The more potential risks that there are from the purchasers point of view, the lower the valuation will be.
Specific actions can be taken to build a more valuable business
•Setting up good systems eg good accurate management accounts. Good systems make nasty surprises unlikely.
•Ensure that sales are spread across a wide customer base. Where there are few large customers the potential for disaster from the loss of just one is increased substantially.
•Ensure that key customers and suppliers are tied in with contracts and mutual dependence.
•Exposure to other external factors such as interest or exchange rates should be minimised.
http://www.alphalimited.co.uk/business-briefs/business-valuations-valuing-a-business.htm
How and Where to Find a Business for Sale
How and Where to Find a Business for Sale
by BizHelp24
October 19, 2005
Chapter 2: Searching For a Business
The first thing to do before you search for a business is to make a criteria list for the ideal business you are looking for. Don't be too specific or your list will eliminate practically every business out there. Instead, just write down a few requirements from the list below:
•The type of business (service/product, industry, etc)
•The location of the business
•The size of the business (customers, suppliers, administration, number of employees etc)
•The performance (minimum level of profit/turnover you expect)
•The expected salary you hope to achieve
•Level of commitment (hours you are willing to put in)
•Required Assets (machinery, equipment, vehicles, etc)
•Premises (leased or owned, office or home, factory or lock-up)
The list can go on, so feel free to add anything that you feel essential.
2a) Franchises
If you would prefer to buy a business that has already proved successful, you may want to buy a franchise. You can find franchises the same way you would any other business that is for sale (see below). To read more about Franchising, visit the Franchising chapter of this article
2b) Finding That Business
This is the part that can take some time. You may already know which business you want but it is still a good idea to short list a few just in case the deal doesn't go through. Below are some of the main places that you can find businesses for sale:
(i) Newspapers/Magazines:
Advertisements are found in media mainly concerned with business or finance issues: for example; Exchange and Mart, Loot, local papers on specific days, quality weekend newspapers. Although the adverts may not give as much detail as you wanted, there will be contacts specified to make any queries. If you want to find a business locally, it is always best to look in your local and regional media.
(ii) Internet:
There are many web sites on the Internet that list businesses for sale. Your best approach would be to go through a search engine to find the relevant sites. We have managed to get hold of a few web sites to get you started.
•Biz Trader
•Forum Commercial
•Loot
•Turner & Co
•UK Business Base
(iii) Finance Services:
These will include Banks and accountants and they too will have details of businesses wanting to sell. The added advantage of consulting these services is that they will able to provide you with financial reports of the business (very useful).
(iv) Business Brokers and Estate Agents:
There are also a number of business brokers and business estate agents. These organizations have details of businesses for sale but you have to take into account that they may also be employed by the business to help sell it. Such agents can be found listed in telephone directories. Business brokers will be detailed further on the following page.
(v) Self-Advertising:
In addition to those said above, why not let the right business come to you? Advertise what you are looking for in a newspaper/magazine: this way you can be more specific about your requirements. Use word-of-mouth to widen your search - you never know what's out there until you ask!
http://www.bizhelp24.com/business-start-up/how-and-where-to-find-a-business-for-sale.html
by BizHelp24
October 19, 2005
Chapter 2: Searching For a Business
The first thing to do before you search for a business is to make a criteria list for the ideal business you are looking for. Don't be too specific or your list will eliminate practically every business out there. Instead, just write down a few requirements from the list below:
•The type of business (service/product, industry, etc)
•The location of the business
•The size of the business (customers, suppliers, administration, number of employees etc)
•The performance (minimum level of profit/turnover you expect)
•The expected salary you hope to achieve
•Level of commitment (hours you are willing to put in)
•Required Assets (machinery, equipment, vehicles, etc)
•Premises (leased or owned, office or home, factory or lock-up)
The list can go on, so feel free to add anything that you feel essential.
2a) Franchises
If you would prefer to buy a business that has already proved successful, you may want to buy a franchise. You can find franchises the same way you would any other business that is for sale (see below). To read more about Franchising, visit the Franchising chapter of this article
2b) Finding That Business
This is the part that can take some time. You may already know which business you want but it is still a good idea to short list a few just in case the deal doesn't go through. Below are some of the main places that you can find businesses for sale:
(i) Newspapers/Magazines:
Advertisements are found in media mainly concerned with business or finance issues: for example; Exchange and Mart, Loot, local papers on specific days, quality weekend newspapers. Although the adverts may not give as much detail as you wanted, there will be contacts specified to make any queries. If you want to find a business locally, it is always best to look in your local and regional media.
(ii) Internet:
There are many web sites on the Internet that list businesses for sale. Your best approach would be to go through a search engine to find the relevant sites. We have managed to get hold of a few web sites to get you started.
•Biz Trader
•Forum Commercial
•Loot
•Turner & Co
•UK Business Base
(iii) Finance Services:
These will include Banks and accountants and they too will have details of businesses wanting to sell. The added advantage of consulting these services is that they will able to provide you with financial reports of the business (very useful).
(iv) Business Brokers and Estate Agents:
There are also a number of business brokers and business estate agents. These organizations have details of businesses for sale but you have to take into account that they may also be employed by the business to help sell it. Such agents can be found listed in telephone directories. Business brokers will be detailed further on the following page.
(v) Self-Advertising:
In addition to those said above, why not let the right business come to you? Advertise what you are looking for in a newspaper/magazine: this way you can be more specific about your requirements. Use word-of-mouth to widen your search - you never know what's out there until you ask!
http://www.bizhelp24.com/business-start-up/how-and-where-to-find-a-business-for-sale.html
Valuation is what a business is worth
Business Valuation
by Tim Berry
Valuation is what a business is worth, as in “this company’s valuation is $10 million.” This would mean that a company is valued at $10 million, or worth $10 million. The term is used most often for discussions of sale or purchase of a company; it’s valuation is the price of a share times the number of shares outstanding, and the price of a share is the total valuation divided by the number of shares outstanding.
Some of the different valuation methods consider:
Rate of return
Timing and form of return
Amount of control desired
Acceptable level of risk
Perception of risk
Standard new venture valuation methods may include:
Asset-based valuation: the business is worth the sum of its assets. Not a popular valuation method for new businesses, because their future should be worth a lot more than their assets.
Book value: the book value of a company is the calculation of assets less liabilities.
Adjusted book value: this variation adjusts the assets – liabilities calculation for real value of assets, distinguished from the accounting value.
Liquidation value: what a business would yield in real money if its assets were liquidated.
Replacement value: what it would cost to replace the business if the replacement started from scratch.
Earnings Based Valuations: this is by far the most popular method for new businesses; they are valued based on future earnings.
Valuation is also important for tax reporting. Some tax-related events such as sale, purchase or gifting of shares of a company will be taxed depending on valuation.
The term is used less in discussions of major publicly traded companies, but it is essentially the same as market cap or market capitalization.
Used as a verb, valuation is the process of determining what the business’ valuation. In this context, a valuation is like an audit, and a valuation expert is a CPA or analyst who does valuations. Some CPAs are certified as valuation experts, which means the IRS is more likely to accept their valuation as part of a transaction related to taxes.
References:
Valuation formulas
Valuation before investment.
Business start-up valuation.
http://articles.bplans.com/buying-a-business/business-valuation/212
by Tim Berry
Valuation is what a business is worth, as in “this company’s valuation is $10 million.” This would mean that a company is valued at $10 million, or worth $10 million. The term is used most often for discussions of sale or purchase of a company; it’s valuation is the price of a share times the number of shares outstanding, and the price of a share is the total valuation divided by the number of shares outstanding.
Some of the different valuation methods consider:
Rate of return
Timing and form of return
Amount of control desired
Acceptable level of risk
Perception of risk
Standard new venture valuation methods may include:
Asset-based valuation: the business is worth the sum of its assets. Not a popular valuation method for new businesses, because their future should be worth a lot more than their assets.
Book value: the book value of a company is the calculation of assets less liabilities.
Adjusted book value: this variation adjusts the assets – liabilities calculation for real value of assets, distinguished from the accounting value.
Liquidation value: what a business would yield in real money if its assets were liquidated.
Replacement value: what it would cost to replace the business if the replacement started from scratch.
Earnings Based Valuations: this is by far the most popular method for new businesses; they are valued based on future earnings.
Valuation is also important for tax reporting. Some tax-related events such as sale, purchase or gifting of shares of a company will be taxed depending on valuation.
The term is used less in discussions of major publicly traded companies, but it is essentially the same as market cap or market capitalization.
Used as a verb, valuation is the process of determining what the business’ valuation. In this context, a valuation is like an audit, and a valuation expert is a CPA or analyst who does valuations. Some CPAs are certified as valuation experts, which means the IRS is more likely to accept their valuation as part of a transaction related to taxes.
References:
Valuation formulas
Valuation before investment.
Business start-up valuation.
http://articles.bplans.com/buying-a-business/business-valuation/212
What’s That Business Worth?
by Milton Zlotnick
- the balance sheet and
- the statement of income and expense.
Valuing a Business
Valuing a Business
by BizHelp24
October 19, 2005
Chapter 6: Valuing a Business
Arguably, a business is worth what-ever someone is willing to pay and therefore will vary from person to person.
Today, there are over twenty different ways of valuing a business and this is why many people cumulate different prices. The price that the seller asks for is almost never what they will receive and is usually reduced in value through negotiations between themselves and you- the buyer.
It is important that you value the business yourself (with the help of assistance) so that you can be sure that you are not over paying for a business.
By paying too much, you will encounter further financial problems if the business doesn't turn out to be successful. On the other hand, those businesses that do prove successful will serve justice to the amount you paid.
In most cases, a business should be valued against the ability it has of generating a good cash-flow. In other words, the price will be dependent on the level of consistency the business has at making profits. All businesses are unique and therefore it is important that you use the most appropriate valuation method to determine a realistic value.
6a) Be Aware!
There are many people out there who use the wrong valuation methods to price a business and consequently pay too much. To give you an idea, look at a couple of them - the first of these is the Comparison Approach:
Say a small business has a Net Profit figure of £5,000 a month and was sold for £200,000 and the business that you want to buy also has the same Profit figure. You would be wrong to think that because they have the same Profits, they should both have the same value. The business that was sold for £200,000 may have only been operating for a few months and therefore, chance is that the profits are likely to increase. The business you have interest in may have been running for a number of years and profits may have stabilized. Also, that business may have a shorter operating period, say, five days a week, compared to your potential business' operating period of six days a week. The moral is that you should never compare prices to businesses with similar profits.
Quite often, many people have confidence that the seller has provided a realistic value and therefore they try to make a bargain by reducing this price by say, 10%. The trap that you may have fallen into here is that the seller may have inflated the price anyway in an attempt to make a bit more money out of the deal. So in theory, you haven't made anything from using this approach and consequently will have paid the price that the business is worth or maybe even more.
http://www.bizhelp24.com/business-start-up/valuing-a-business.html
Valuing a Business: The Asset Value and Payback Value
6b) The Right Approach
Different methods are also used depending on the size of the business and so we have stuck to the main ones that are generally used to valuing Small Medium Enterprises - 'SME'. During this time, you should consult your accountant to determine the best approach and also allow them to make the necessary calculations: despite the simplicity they may show, the figures involved may take time to reach through previous calculations taken from the accounts. Further, most of the figures and values you need should have been obtained during your due-diligence period.
6c) Asset Value
Using assets to value a business is more commonly used when it is considered as asset-intensive i.e. the assets heavily contribute to the level of profit that is generated. The Net asset value can therefore be obtained from the sum of the following:
•An accumulated value of all the fixed assets including plant, land and machinery.
•The value of any leasehold improvements: this includes any refurbishments or modifications the owner may have made such as new office space and/or equipment. You should note that the leaser can make the owner return the leasehold to the original state should these changes not be beneficial to you. Any improvements would therefore not be included in the overall value.
•The value of the inventory which can include raw materials, stock and anything that may be considered as work-in-progress.
•The value of intangible assets which not only includes goodwill but also logos, trademarks, and any patents.
6d) Payback Value
This is where you will set a price determined by the period that you expect to get a return for your initial investment. For example, a newsagent has a Net Profit of £30,000 and you expect to start making money after the third year. In which case, you would multiply this period by the Net profit i.e. £30,000 x 3 years = £90,000. This method strongly validates the fact: a business is only worth what someone is willing to pay.
http://www.bizhelp24.com/business-start-up/valuing-a-business-the-asset-value-and-payback-value.html
Valuing a Business: Return on Investment, Income Value & Owner Benefit Value
6e) Return on Investment/Capital
For a return on investment value, we are assuming that no fixed price has been given for the business and therefore you will use the net profit and your proposed return on investment percentage to determine a price. For example, a business makes a net profit of £20,000 and you expect an investment return of 10%. In which case, £20,000 divided by 10% gives a value of £200,000.
A return on capital approach would assume that a fixed price has been given for the business in which you can use to determine whether it is a wise investment. It may be that your money is worth investing elsewhere such as a bank that offers an average return of around 5%. Using basic terms, let's say the business is for sale at £100,000 and the net profit is £10,000. To find the return rate, you would divide the net profit by the business price and then work it out as a percentage: (see below)
£10,000 divide by £100,000 = 0.1
0.1 x 100% = 10% Return on Capital Employed
With a 10% Return on Capital Employed, It would therefore be a good investment as the rate is higher than that of the bank.
Should the rate be unacceptable, you would use the return on investment method to determine a more suitable price in order to give you your desired return.
6f) Capitalization of Income Value
This method is used more commonly for services and therefore considers the intangible value of the business. Such businesses are usually contract orientated and consequently you can fall into high risk situations. It would further be wise to use an accountant to determine that the business would have a favourable outcome should it suffer from a change of ownership.
This method involves using factors to determine an average figure called the "capitalization rate", say, between 1 (low) and 5 (high) to multiply against the owner's discretionary income (profits, owner's salary, non essential expenses etc) the following list has a low score potential of 11, and a high of 55. Such factors will include:
•Profitability (concentrate on future, not past, profitability)
•Competition (present and future)
•Customer base, particularly those under contract
•Full risk analysis
•Your suitability (your standard of experience and knowledge in the industry)
•Future potential for the industry
•Why the present owner is selling
•How long the business has traded
•How many past owners
•Location of business to customers
•Where growth lies within the business
If after rating the above as, say, 20 and the discretionary income is £20,000, the sum would be:
20 x 20,000 = £200,000 purchase price
As these factors are very subjective, it could be difficult to agree an exact "capitalization rate" and therefore an alternative valuation method should be adopted if you are too far from the sellers rate.
6g) Owner Benefit Valuation
This method uses a figure between 2 and 3 (depending on what you think is appropriate) and multiplied by the owner's discretionary cash-flow. Discretionary annual cash-flow can be referred to as the money that is not used in the operations of the business - profits, owner's salary, non essential expenses etc. Using this approach gives a value that reflects the business' ability to generating cash-flow and profits. If you want, say, 2.5 times the owners total benefits and the discretionary income is £20,000, the sum would be:
2.5 x 20,000 = £50,000 purchase price
http://www.bizhelp24.com/business-start-up/valuing-a-business-return-on-investment-income-value-owner-benefit-value.html
Valuing a Business: The Multiplier Valuation
6h) Multiplier Valuation
This area is very subjective and there will be a variation in people's attitudes and opinions for the figures involved. The figures that we have given are USA based and should be used for guidance purposes only to give you an idea of the differences between industries. The value of the business is derived from the multiplication of a figure (or percentage) and a financial value of the business.
Below are multiplication figures that have been supplied by the Business Brokerage Press, located in the USA, from their publication 'The 2001 Business Reference Guide'.
Type of Business "Rule of Thumb" valuation
Accounting Firms 100% - 125% of annual revenues
Auto Dealers 2-3 years net income + tangible assets
Book Stores 15% of annual sales + inventory
Coffee Shops 40% - 45% of annual sales + inventory
Courier Services 70% of annual sales
Day Care Centres 2-3 times annual cash flow
Dental Practices 60% - 70% of annual revenues
Dry Cleaners 70% - 100% of annual sales
Employment & Personnel Agencies 50% - 100% of annual revenues
Engineering practices 40% of annual revenues
Florists 34% of annual sales + inventory
Food/Gourmet Shops 20% of annual sales + inventory
Furniture & Appliance Stores 15% - 25% of annual sales + inventory
Gas Stations 15% - 25% of annual sales + equip/inventory
Gift & Card Shops 32% - 40% of annual sales + inventory
Grocery Stores 11% - 18% of annual sales + inventory
Insurance Agencies 100% - 125% of annual commissions
Janitorial & Landscape Contractors 40% - 50% of annual sales
Law Practices 40% - 100% of annual fees
Liquor Stores 5% of annual sales + inventory
Property Management Companies 50% - 100% of annual revenues
Restaurants (non-franchised) 30% - 45% of annual sales
Sporting Goods stores 30% of annual sales + inventory
Taverns 55% of annual sales
Travel Agencies 40% - 60% of annual commissions
Veterinary Practices 60% - 125% of annual revenues
http://www.bizhelp24.com/business-start-up/valuing-a-business-the-multiplier-valuation.html
by BizHelp24
October 19, 2005
Chapter 6: Valuing a Business
Arguably, a business is worth what-ever someone is willing to pay and therefore will vary from person to person.
Today, there are over twenty different ways of valuing a business and this is why many people cumulate different prices. The price that the seller asks for is almost never what they will receive and is usually reduced in value through negotiations between themselves and you- the buyer.
It is important that you value the business yourself (with the help of assistance) so that you can be sure that you are not over paying for a business.
By paying too much, you will encounter further financial problems if the business doesn't turn out to be successful. On the other hand, those businesses that do prove successful will serve justice to the amount you paid.
In most cases, a business should be valued against the ability it has of generating a good cash-flow. In other words, the price will be dependent on the level of consistency the business has at making profits. All businesses are unique and therefore it is important that you use the most appropriate valuation method to determine a realistic value.
6a) Be Aware!
There are many people out there who use the wrong valuation methods to price a business and consequently pay too much. To give you an idea, look at a couple of them - the first of these is the Comparison Approach:
Say a small business has a Net Profit figure of £5,000 a month and was sold for £200,000 and the business that you want to buy also has the same Profit figure. You would be wrong to think that because they have the same Profits, they should both have the same value. The business that was sold for £200,000 may have only been operating for a few months and therefore, chance is that the profits are likely to increase. The business you have interest in may have been running for a number of years and profits may have stabilized. Also, that business may have a shorter operating period, say, five days a week, compared to your potential business' operating period of six days a week. The moral is that you should never compare prices to businesses with similar profits.
Quite often, many people have confidence that the seller has provided a realistic value and therefore they try to make a bargain by reducing this price by say, 10%. The trap that you may have fallen into here is that the seller may have inflated the price anyway in an attempt to make a bit more money out of the deal. So in theory, you haven't made anything from using this approach and consequently will have paid the price that the business is worth or maybe even more.
http://www.bizhelp24.com/business-start-up/valuing-a-business.html
Valuing a Business: The Asset Value and Payback Value
6b) The Right Approach
Different methods are also used depending on the size of the business and so we have stuck to the main ones that are generally used to valuing Small Medium Enterprises - 'SME'. During this time, you should consult your accountant to determine the best approach and also allow them to make the necessary calculations: despite the simplicity they may show, the figures involved may take time to reach through previous calculations taken from the accounts. Further, most of the figures and values you need should have been obtained during your due-diligence period.
6c) Asset Value
Using assets to value a business is more commonly used when it is considered as asset-intensive i.e. the assets heavily contribute to the level of profit that is generated. The Net asset value can therefore be obtained from the sum of the following:
•An accumulated value of all the fixed assets including plant, land and machinery.
•The value of any leasehold improvements: this includes any refurbishments or modifications the owner may have made such as new office space and/or equipment. You should note that the leaser can make the owner return the leasehold to the original state should these changes not be beneficial to you. Any improvements would therefore not be included in the overall value.
•The value of the inventory which can include raw materials, stock and anything that may be considered as work-in-progress.
•The value of intangible assets which not only includes goodwill but also logos, trademarks, and any patents.
6d) Payback Value
This is where you will set a price determined by the period that you expect to get a return for your initial investment. For example, a newsagent has a Net Profit of £30,000 and you expect to start making money after the third year. In which case, you would multiply this period by the Net profit i.e. £30,000 x 3 years = £90,000. This method strongly validates the fact: a business is only worth what someone is willing to pay.
http://www.bizhelp24.com/business-start-up/valuing-a-business-the-asset-value-and-payback-value.html
Valuing a Business: Return on Investment, Income Value & Owner Benefit Value
6e) Return on Investment/Capital
For a return on investment value, we are assuming that no fixed price has been given for the business and therefore you will use the net profit and your proposed return on investment percentage to determine a price. For example, a business makes a net profit of £20,000 and you expect an investment return of 10%. In which case, £20,000 divided by 10% gives a value of £200,000.
A return on capital approach would assume that a fixed price has been given for the business in which you can use to determine whether it is a wise investment. It may be that your money is worth investing elsewhere such as a bank that offers an average return of around 5%. Using basic terms, let's say the business is for sale at £100,000 and the net profit is £10,000. To find the return rate, you would divide the net profit by the business price and then work it out as a percentage: (see below)
£10,000 divide by £100,000 = 0.1
0.1 x 100% = 10% Return on Capital Employed
With a 10% Return on Capital Employed, It would therefore be a good investment as the rate is higher than that of the bank.
Should the rate be unacceptable, you would use the return on investment method to determine a more suitable price in order to give you your desired return.
6f) Capitalization of Income Value
This method is used more commonly for services and therefore considers the intangible value of the business. Such businesses are usually contract orientated and consequently you can fall into high risk situations. It would further be wise to use an accountant to determine that the business would have a favourable outcome should it suffer from a change of ownership.
This method involves using factors to determine an average figure called the "capitalization rate", say, between 1 (low) and 5 (high) to multiply against the owner's discretionary income (profits, owner's salary, non essential expenses etc) the following list has a low score potential of 11, and a high of 55. Such factors will include:
•Profitability (concentrate on future, not past, profitability)
•Competition (present and future)
•Customer base, particularly those under contract
•Full risk analysis
•Your suitability (your standard of experience and knowledge in the industry)
•Future potential for the industry
•Why the present owner is selling
•How long the business has traded
•How many past owners
•Location of business to customers
•Where growth lies within the business
If after rating the above as, say, 20 and the discretionary income is £20,000, the sum would be:
20 x 20,000 = £200,000 purchase price
As these factors are very subjective, it could be difficult to agree an exact "capitalization rate" and therefore an alternative valuation method should be adopted if you are too far from the sellers rate.
6g) Owner Benefit Valuation
This method uses a figure between 2 and 3 (depending on what you think is appropriate) and multiplied by the owner's discretionary cash-flow. Discretionary annual cash-flow can be referred to as the money that is not used in the operations of the business - profits, owner's salary, non essential expenses etc. Using this approach gives a value that reflects the business' ability to generating cash-flow and profits. If you want, say, 2.5 times the owners total benefits and the discretionary income is £20,000, the sum would be:
2.5 x 20,000 = £50,000 purchase price
http://www.bizhelp24.com/business-start-up/valuing-a-business-return-on-investment-income-value-owner-benefit-value.html
Valuing a Business: The Multiplier Valuation
6h) Multiplier Valuation
This area is very subjective and there will be a variation in people's attitudes and opinions for the figures involved. The figures that we have given are USA based and should be used for guidance purposes only to give you an idea of the differences between industries. The value of the business is derived from the multiplication of a figure (or percentage) and a financial value of the business.
Below are multiplication figures that have been supplied by the Business Brokerage Press, located in the USA, from their publication 'The 2001 Business Reference Guide'.
Type of Business "Rule of Thumb" valuation
Accounting Firms 100% - 125% of annual revenues
Auto Dealers 2-3 years net income + tangible assets
Book Stores 15% of annual sales + inventory
Coffee Shops 40% - 45% of annual sales + inventory
Courier Services 70% of annual sales
Day Care Centres 2-3 times annual cash flow
Dental Practices 60% - 70% of annual revenues
Dry Cleaners 70% - 100% of annual sales
Employment & Personnel Agencies 50% - 100% of annual revenues
Engineering practices 40% of annual revenues
Florists 34% of annual sales + inventory
Food/Gourmet Shops 20% of annual sales + inventory
Furniture & Appliance Stores 15% - 25% of annual sales + inventory
Gas Stations 15% - 25% of annual sales + equip/inventory
Gift & Card Shops 32% - 40% of annual sales + inventory
Grocery Stores 11% - 18% of annual sales + inventory
Insurance Agencies 100% - 125% of annual commissions
Janitorial & Landscape Contractors 40% - 50% of annual sales
Law Practices 40% - 100% of annual fees
Liquor Stores 5% of annual sales + inventory
Property Management Companies 50% - 100% of annual revenues
Restaurants (non-franchised) 30% - 45% of annual sales
Sporting Goods stores 30% of annual sales + inventory
Taverns 55% of annual sales
Travel Agencies 40% - 60% of annual commissions
Veterinary Practices 60% - 125% of annual revenues
http://www.bizhelp24.com/business-start-up/valuing-a-business-the-multiplier-valuation.html
4 Tips to Valuing a Business For Purchases
4 Tips to Valuing a Business For Purchases
By Ted E. Sanders Ted E. Sanders
Level: Basic PLUS
Mr. Sanders is a self described “serial entrepreneur,” and teacher. Mr. Sanders has purchased 4 businesses and started too many businesses to remember. Mr. Sanders ... Article Word Count: 646 [View Summary] Comments (0)
You've made the decision to buy a business. Good choice! Buying a business can be the best way to increase your personal wealth. You've found this wonderful illustrious business that has incredible potential and you know you are absolutely going to love working there for the rest of your life, or at least until you make your first million ;) Now the seller is asking a price that sounds right, but how did they come to that price? Valuing a business is more than often an ambiguous process that comes down to more opinion than fact. Market value for your business is the price that a reasonable buyer would pay and reasonable seller would pay for in a normal market of business sales. If you're reading this article - you're not normal. I say this in a good way. You're actually above normal. Most people who ATTEMPT to buy a business do very little studying and research into the process. Consequently they either don't buy the business due to insecurities or inadequate funding or they buy the business and fail due to poor preparation. So how much is that business worth? Here are 4 tips to assist you in valuing the business.
1. If the business is making a profit, how much of a profit does it REALLY make? I've seen business brokers, and listing agents come up with all sorts of amazing projections on what the business should be making and then trying to sell it based on that number. If the business broker or seller can predict the future then they shouldn't be in entrepreneurship - they should be in the stock market! If the price is based on earnings, and the earnings are based on "pro-forma" or projected income (not actual) then forget any price they put to the business. You're buying income not income potential. If you want some great income potential I have some swamp land for sale for you in Florida that is definitely going to go up in value - some day.
2. If the business is losing money, it's worth the assets current resale value minus the debt that you're assuming in the business. This means if the business has 1 widget that they bought for $100,000, business debt of $20,000 - you don't know the value of the business! If you can sell the widget for $40,000 and the business debt is $20,000 the business is worth $20,000.
3. What is the business worth to you? Most of the buyers I coach are individuals who are more interested in buying a business/job instead of investing millions of dollars into a business that can be made into a public offering. Consequently buying a business means replacing a full-time income for twice the work as your previous job. However people seek self employment for a variety of reasons, income, pride, the freedom of spending more time with family etc. List 10 reasons why you want to be self employed. Now put a price tag to every item you've listed. If any of those price tags are "infinite" self employment is for you.
4. The four P's - Pick your Price based on Past Performance or what was Put in the Previous owners Pocket? - Pay for past performance - never pay for what the business could or should be. Remember that you are the buyer and you should try to pick your price based on how much money the business has put in the previous owners pocket. All formal and informal business valuations are established on "net present value." Please remember that off book money absolutely can not account for the price! Off book money is money not reported to the IRS. If the seller didn't declare it as income or benefits then it does not count for the income to determine the price.
Do you want to learn more about how to buy a business? I have just completed a brand new guide in buying a business "The Corporate Raider's Guide to Creatively Financing Your First Business." Download it free here: http://www.corporateraidersguide.com/
Article Source: http://EzineArticles.com/?expert=Ted_E._Sanders
http://ezinearticles.com/?4-Tips-to-Valuing-a-Business-For-Purchases&id=2695770
By Ted E. Sanders Ted E. Sanders
Level: Basic PLUS
Mr. Sanders is a self described “serial entrepreneur,” and teacher. Mr. Sanders has purchased 4 businesses and started too many businesses to remember. Mr. Sanders ... Article Word Count: 646 [View Summary] Comments (0)
You've made the decision to buy a business. Good choice! Buying a business can be the best way to increase your personal wealth. You've found this wonderful illustrious business that has incredible potential and you know you are absolutely going to love working there for the rest of your life, or at least until you make your first million ;) Now the seller is asking a price that sounds right, but how did they come to that price? Valuing a business is more than often an ambiguous process that comes down to more opinion than fact. Market value for your business is the price that a reasonable buyer would pay and reasonable seller would pay for in a normal market of business sales. If you're reading this article - you're not normal. I say this in a good way. You're actually above normal. Most people who ATTEMPT to buy a business do very little studying and research into the process. Consequently they either don't buy the business due to insecurities or inadequate funding or they buy the business and fail due to poor preparation. So how much is that business worth? Here are 4 tips to assist you in valuing the business.
1. If the business is making a profit, how much of a profit does it REALLY make? I've seen business brokers, and listing agents come up with all sorts of amazing projections on what the business should be making and then trying to sell it based on that number. If the business broker or seller can predict the future then they shouldn't be in entrepreneurship - they should be in the stock market! If the price is based on earnings, and the earnings are based on "pro-forma" or projected income (not actual) then forget any price they put to the business. You're buying income not income potential. If you want some great income potential I have some swamp land for sale for you in Florida that is definitely going to go up in value - some day.
2. If the business is losing money, it's worth the assets current resale value minus the debt that you're assuming in the business. This means if the business has 1 widget that they bought for $100,000, business debt of $20,000 - you don't know the value of the business! If you can sell the widget for $40,000 and the business debt is $20,000 the business is worth $20,000.
3. What is the business worth to you? Most of the buyers I coach are individuals who are more interested in buying a business/job instead of investing millions of dollars into a business that can be made into a public offering. Consequently buying a business means replacing a full-time income for twice the work as your previous job. However people seek self employment for a variety of reasons, income, pride, the freedom of spending more time with family etc. List 10 reasons why you want to be self employed. Now put a price tag to every item you've listed. If any of those price tags are "infinite" self employment is for you.
4. The four P's - Pick your Price based on Past Performance or what was Put in the Previous owners Pocket? - Pay for past performance - never pay for what the business could or should be. Remember that you are the buyer and you should try to pick your price based on how much money the business has put in the previous owners pocket. All formal and informal business valuations are established on "net present value." Please remember that off book money absolutely can not account for the price! Off book money is money not reported to the IRS. If the seller didn't declare it as income or benefits then it does not count for the income to determine the price.
Do you want to learn more about how to buy a business? I have just completed a brand new guide in buying a business "The Corporate Raider's Guide to Creatively Financing Your First Business." Download it free here: http://www.corporateraidersguide.com/
Article Source: http://EzineArticles.com/?expert=Ted_E._Sanders
http://ezinearticles.com/?4-Tips-to-Valuing-a-Business-For-Purchases&id=2695770
Valuing a Business (Power Point Presentation)
Earnings Multiple (Value-to-Earnings) Ratio:
A ratio is determined by dividing the firm’s value by its earnings that can be compared to representative ratios of recently-sold similar firms.
Normalized Earnings: Earnings that have been adjusted for unusual items, such as fire damage, and all relevant expenses, such as a fair salary for the owner’s time
Type of Firm ####Earnings Multiple
Small, well-established firms, vulnerable to recession ####7
Small firms requiring average executive ability but operating in a highly competitive environment ####4
Firms that depend on the special, often unusual, skill of one individual or a small group of managers#### 2
Risk and Growth in Determining a Firm’s Value:
Risk and Growth are Key Factors Affecting the Earnings Multiple and Firm Value
The more (less) risky the business, the lower (higher) the appropriate earnings multiple and, as a consequence, the lower (higher) the firm’s value.
The higher (lower) the projected growth rate in future earnings, the higher (lower) the appropriate earnings multiple and, therefore, the higher (lower) the firm’s value.
Cash Flow-Based Valuation
Determination of the value of a business by estimating the amount and timing of its future cash flows
Step 1. Project the firm’s expected future cash flows.
Step 2. Estimate the investors’ and owners’ required rate of return on their investment in the business.
Step 3. Using the required rate of return as the discount rate, calculate the present value of the firm’s expected future cash flows, which equals the value of the firm.
http://www.andrews.edu/~schwab/sbm-appb.ppt#8
A ratio is determined by dividing the firm’s value by its earnings that can be compared to representative ratios of recently-sold similar firms.
Normalized Earnings: Earnings that have been adjusted for unusual items, such as fire damage, and all relevant expenses, such as a fair salary for the owner’s time
Type of Firm ####Earnings Multiple
Small, well-established firms, vulnerable to recession ####7
Small firms requiring average executive ability but operating in a highly competitive environment ####4
Firms that depend on the special, often unusual, skill of one individual or a small group of managers#### 2
Risk and Growth in Determining a Firm’s Value:
Risk and Growth are Key Factors Affecting the Earnings Multiple and Firm Value
The more (less) risky the business, the lower (higher) the appropriate earnings multiple and, as a consequence, the lower (higher) the firm’s value.
The higher (lower) the projected growth rate in future earnings, the higher (lower) the appropriate earnings multiple and, therefore, the higher (lower) the firm’s value.
Cash Flow-Based Valuation
Determination of the value of a business by estimating the amount and timing of its future cash flows
Step 1. Project the firm’s expected future cash flows.
Step 2. Estimate the investors’ and owners’ required rate of return on their investment in the business.
Step 3. Using the required rate of return as the discount rate, calculate the present value of the firm’s expected future cash flows, which equals the value of the firm.
http://www.andrews.edu/~schwab/sbm-appb.ppt#8
Deciding on the right type of business to buy
Ideally any business you buy needs to fit your own skills, lifestyle and aspirations. Before you start looking, think about what you can bring to a business and what you'd like to get back.
List what is important to you. Look at your motivations and what you ultimately want to achieve. It is useful to consider:
•Your abilities - can you achieve what you want to achieve?
•Your capital - how much money do you have to invest?
•Your expectations in terms of earning - what level of profit do you need to be looking for to accommodate your needs?
•Your commitment - are you prepared for all the hard work and money that you will need to put into the business to get it to succeed?
•Your strengths - what kind of business opportunity will give you the chance to put your skills and experience to good use?
•The business sector you're interested in - learn as much as you can about your chosen industry so you can compare different businesses. It's important to take the time to talk to people already in similar businesses but the internet and a large local library will also be good sources of information. Find out how to comply with all the regulations and licences that apply to Your business sector.
•Location - don't restrict your search to your local area. Some businesses can be easily relocated
http://www.adelbb.com/tipsMore.php?id=27
List what is important to you. Look at your motivations and what you ultimately want to achieve. It is useful to consider:
•Your abilities - can you achieve what you want to achieve?
•Your capital - how much money do you have to invest?
•Your expectations in terms of earning - what level of profit do you need to be looking for to accommodate your needs?
•Your commitment - are you prepared for all the hard work and money that you will need to put into the business to get it to succeed?
•Your strengths - what kind of business opportunity will give you the chance to put your skills and experience to good use?
•The business sector you're interested in - learn as much as you can about your chosen industry so you can compare different businesses. It's important to take the time to talk to people already in similar businesses but the internet and a large local library will also be good sources of information. Find out how to comply with all the regulations and licences that apply to Your business sector.
•Location - don't restrict your search to your local area. Some businesses can be easily relocated
http://www.adelbb.com/tipsMore.php?id=27
How to value a business
Valuing a business can be one of the most worrying parts of buying an existing business.
There are several valuation methods you can use. For specific advice on valuation methods see our guide on how to value and market your business. Your accountant may be able to help you value the business, but a business transfer agent, business broker or corporate financier will be best qualified to provide valuation advice.
A healthy business
To get a general idea of how healthy the business is, look at:
•the history of the business
•its current performance - sales, turnover, profit
•its financial situation - cashflow, debts, expenses, assets
•why the business is being sold
•any outstanding or major litigation the business is involved in
•any regulatory changes which might have an impact on the business
As part of your investigations, talk to the vendor and, if possible, the business' existing customers and suppliers. The vendor must be comfortable with you doing this and you must be sensitive to their position. Customer and suppliers may be able to give you information that affects your valuation, as well as information about market conditions affecting the business. Such research can also be done on the internet or at your local reference library.
For example, if the vendor is being forced to sell due to decreasing profits, your valuation might be lower.
Intangible assets
The most difficult part is valuing the intangible assets. These are usually difficult to measure and could include:
•the company's reputation
•the relationship with suppliers
•the value of goodwill
•the value of licences
•patents or intellectual property
You should consider how the value of these assets could be affected if you decide to buy the business.
Other considerations
The list below details other factors that will affect the value:
•stock
•location
•assets
•products
•debtors
•creditors
•suppliers
•employees
•premises
•competition
•benchmarking - what other businesses in the sector have sold for
•who else in the sector is for sale or on the market
Once you have considered all these factors you can then decide how much you want to offer, or whether you want to buy it at all.
If you do decide to make an offer, and agree a price with the seller, a period of time is allowed for you to verify that all of the information you have been told is accurate. This is known as due diligence.
http://www.adelbb.com/tipsMore.php?id=29
There are several valuation methods you can use. For specific advice on valuation methods see our guide on how to value and market your business. Your accountant may be able to help you value the business, but a business transfer agent, business broker or corporate financier will be best qualified to provide valuation advice.
A healthy business
To get a general idea of how healthy the business is, look at:
•the history of the business
•its current performance - sales, turnover, profit
•its financial situation - cashflow, debts, expenses, assets
•why the business is being sold
•any outstanding or major litigation the business is involved in
•any regulatory changes which might have an impact on the business
As part of your investigations, talk to the vendor and, if possible, the business' existing customers and suppliers. The vendor must be comfortable with you doing this and you must be sensitive to their position. Customer and suppliers may be able to give you information that affects your valuation, as well as information about market conditions affecting the business. Such research can also be done on the internet or at your local reference library.
For example, if the vendor is being forced to sell due to decreasing profits, your valuation might be lower.
Intangible assets
The most difficult part is valuing the intangible assets. These are usually difficult to measure and could include:
•the company's reputation
•the relationship with suppliers
•the value of goodwill
•the value of licences
•patents or intellectual property
You should consider how the value of these assets could be affected if you decide to buy the business.
Other considerations
The list below details other factors that will affect the value:
•stock
•location
•assets
•products
•debtors
•creditors
•suppliers
•employees
•premises
•competition
•benchmarking - what other businesses in the sector have sold for
•who else in the sector is for sale or on the market
Once you have considered all these factors you can then decide how much you want to offer, or whether you want to buy it at all.
If you do decide to make an offer, and agree a price with the seller, a period of time is allowed for you to verify that all of the information you have been told is accurate. This is known as due diligence.
http://www.adelbb.com/tipsMore.php?id=29
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