Business Value ( an Opinion of Value).
Business Value
How does a Buyer or Seller value a Business for Purchase or know what the Business is worth in the Business Market. The Buyer does not want to pay too much and the Seller does not want to overprice the Business so it remains on the Market unsold.
Why do Sellers Sell? As a Business Broker who has sold hundreds of Businesses, and as an actual owner of several Businesses who has been in the Seller and Buying positions, this is what I see:
There is not just one reason to Sell, there are several. Again, as a Broker, fielding phone calls from Buyers, the first question I usually have to get past is: Whats wrong with the Business? It must be a loser, that’s why the Seller is Selling. I don’t want to buy someone else’s problems.
I personally wish I could understand where this comes from, because I spend so much time explaining this to Buyers. Sometimes they get it, sometimes they don’t. Oh well. Buyers need to understand that there are many profitable Businesses on the Market. Depend on your Broker and adversaries to do a correct market evaluation and have the experience to know the difference not to list or evaluate an overpriced or distressed Business unless it is disclosed to the Buyer.
In many instances, and I sell a lot of these, many Buyers have the experience and the knowledge to buy these distressed Businesses and turn them around to make plenty of money, and, I have been one of those Buyers! I have done it many times. So in brief, back to the reasons for Selling.
There is a natural cycle of Business turnover relating to people’s lives that some Buyers do not see.
Sellers move, they pass away, their loved ones pass away, their spouse has been transferred to another location, Divorce, or the owner gets Ill and is no longer able to run the Business. Maybe the Seller wants to just start a new Business and needs the proceeds from his sale to do so. How about retirement, how about the Seller doesn’t like the Business anymore. That’s not a crime; he is just burned out, and wants to do something else. They say that the average person has up to three careers during their lifetime. Maybe the Seller incurred too much Debt, Business or Personal, and the Business has good cash flow, but not enough to pay his bills and his Debt.
If a Buyer takes over with less Debt service and keeps good profitability in the Business, it’s a win win situation.
To get to Value. The Dictionary Definition of Value is Relative worth, merit, or importance, monetary or material worth, worth or return in money, and a number represented by a figure. How do you get to Value? In my estimation Value is an opinion, as it is related to someone’s personal circumstances, the Net Profit, the Fixed Assets, the Leasehold, the established time of the Business, the continuation of the income stream, relating to the location, product or service of that Business.
I think far less evaluation time should be spent on the past performance of any Business, but to focus on the future earnings of that Business, because the future pays the bills, not the past.
Some Buyers use a multiplier of Gross Sales to establish Value. I hear this quite frequently, which I disagree with. Here’s why, you can’t spend the Gross. Secondly Business operation between different Businesses varies too much to use a Gross Multiplier. If two Businesses Gross the same amount of money and the Rent on one Business is $5,000 a month, and the Rent on the second Business is $3,000 a month, which is worth more. Obviously, the Business with the lower Rent by $2,000 is worth more because it has a higher Net profit with a larger Cash Flow, right.
Travelling distance from a Buyers home will affect his value. A Business that is located 3 miles away from the Buyers residence is automatically worth more to a Buyer than a Business that is located 25 miles away.
One could go on and on, but the point is, value is determined in many different ways.
A lot of Buyers put there main focus on Books and Records, especially before they right an Offer to Purchase. That is what the Buyers act of Due Diligence is for. The Seller has to prove the Income and Expenses unconditionally that he has represented. Books and Records, Income and Expense evaliuation is simple Math, it’s not complicated. Make sure the Seller can verify the Gross and the Expenses with proof, if not, don’t buy the Business, simple. Writing an Offer produces more of a balance in the purchase and a fiduciary with the Seller. The Seller is more willing to remove his Business from the market and will usually produce more information more rapidly because he knows the sincerity of the Buyer. Open your Escrow when the Buyer concludes the Due Diligence, then nobody is out anything.
Use a CPA if you want to. They are professionals on Numbers, and are very good at what they do, but make sure you get a good one that understands Business operations. Most general CPA’s do Taxes, not Business evaluations. Make sure they have prior Business experience, if not, just let them do your Taxes and get someone else to help you with the evaluation. Beyond the focus of Books and Records, because in a Buyers eyes from listening to relatives friends and Aunts and Uncles, there is something wrong with that Business, that’s why the Seller is Selling. No, look at the big picture. Although outside opinions are relevant, remember, sometimes you are dealing with conservative opinions. These are 9 to 5 people that want to be safe with 2% return in 401k’s and retirement accounts? That is okay, that’s what they want, but who the heck wants to work for someone else? Are you kidding me? This is why you started looking for your own Business in the first place. You want to be in control not someone else.
Look at the Business Asset your purchasing closely. Did you ever realize that besides the value of your depleting piece of Real Estate, or your 2% return on your retirement account, that a Business not only pays your bills, but now you have an income producing Asset with a major return on your investment.
For example: You pay $100,000.00 for a Business and the Net Profit is $50,000 yearly, then the return is ½ or 50%. Then there is the actual Cash on Cash return. You pay $100,000.00 for the same Business but only put $50,000 down, and have the Seller carry a note for the balance, the return is 100% isn’t it.
Nothing as an opinion, returns on an investment like a small Business. Nothing. What is the Value in that? One could go on and on about this, but it is based on actual Fact and Experience.
