Business Valuations Articles Archive - South Florida Business Broker Russell Cohen

Business Broker Russell Cohen

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Business Valuations Articles Archive

Why Your Company Needs a Physical?

Many executives of both public and private firms get a physical check-up once a year. Many of these same executives think nothing of having their investments checked over at least once a year – probably more often. Yet, these same prudent executives never consider giving their company an annual physical, unless they are required to by company rules, ESOP regulations or some other necessary reason. A leading CPA firm conducted a survey that revealed: 65% of business owners do not know what their company is worth; 75% of their net worth is tied up in their business; and 85% have no exit strategy There are many obvious reasons why a business owner should get a valuation of his or her company every year such as partnership issues, estate planning or a divorce; buy/sell agreements; banking relationships; etc. No matter what the reason, the importance of getting a valuation cannot be over-emphasized: An astute business owner should like to know the current value of his or her company as part of a yearly analysis of the business. How does it stack up on a year-to-year basis? Value should be increasing not decreasing! It might also point out how the company stacks up against its peers. The owner’s annual physical hopefully shows that everything is fine, but if there is a problem, catching it early on is very important. The same is true of the business. Lee Ioccoca, former CEO of the Chrysler Company said in commercials for the company, “Buy, sell or get-out-of-the-way,” meaning standing still was not an option. One never knows when an opportunity will present itself. An... read more

What Is a Company Worth?*

This question can only be answered by addressing other related questions, specifically: Who’s asking and for what purpose? From the perspective of the owner, prospective buyers, the IRS, lenders and divorce & bankruptcy courts, the value of a business for purposes of a sale, estate planning, orderly or forced liquidation, gifting, divorce, etc. can be vastly different. Intrinsically tied to the various purposes of valuation are numerous definitions of “value.” Here are a few examples: Investment Value – The value an acquirer places on a business based on a future return on investment determined by assessing past and current performance, future prospects, and other opportunities and risk factors involving the business. Liquidation Value – The value derived from the sale of the assets of a business that is closed or expected to be closed following the sale. Book Value – Book value is the difference between the total assets and total liabilities as accounted for on the company’s balance sheet. Going Concern Value – Used to define the intangible value which may exist as a result of a business having such attributes as an established, trained and knowledgeable workforce, a loyal customer base, in-place operating systems, etc. Fair Market Value – For the purpose of this article, the focus will be on transaction related valuations. Fair Market Value (“FMV”) is the most relevant definition of “value” and is of the most interest to business owners. The more knowledge business owners and prospective buyers have about the valuation process, the more likely they will come to an agreement on a purchase price. (For more information, see the article in this... read more

What Is a Business Worth?

Many courts and the Internal Revenue Service have defined fair market value as: “The amount at which property would exchange between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having a reasonable knowledge of relevant facts.” You may have to read this several times to get the gist and depth of this definition. The problem with this definition is that the conditions cited rarely exist in the real world of selling or buying a business. For example, the definition states that the sale of the business cannot be conducted under any duress, and neither the buyer nor the seller can be pushed into the transaction. Such factors as emotion and sentimental value cannot be a part of the sale. Surprisingly, under this definition, no actual sale or purchase has to take place to establish fair market value. That’s probably because one could never take place using the definition. So what does make up the value of a privately-held business? A business consists of tangible and intangible assets. The tangible assets are the most visible and the ones on which buyers too often base a judgment on the value of a business. As factors of value, fixtures, equipment and leasehold improvements are often valued first by the buyer. Well maintained equipment and attractive interior surroundings are the first things a buyer sees when visiting a business for sale. Make no mistake, regardless of what prospective buyers may say, the emotional impact of a physically well-maintained business can be a very positive factor. In addition, it is much easier to finance... read more

Valuing a Business from a Buyer’s Perspective

Often times, public company data is used when attempting to value a privately-held firm. This comparison usually requires substantial adjustments to offset the risks inherent in the privately-held or closely-held company. These potential risk characteristics are usually elements that are overlooked by sellers, but not by potential buyers. Sellers obviously look at their companies much differently than do prospective acquirers. Owners and company officers tend to place value on different factors than does a buyer. However, when it comes time to sell, it’s important that the seller consider those factors that are important to a buyer. Interviews with buyer prospects reveal that they are concerned with, and influenced by, the factors outlined below. They are often the basic considerations that determine whether they actually purchase the business, as well as the price they are willing to pay. It is the buyer’s evaluation of these factors that can make or break a possible sale. Buyers tend to look at these elements as risk factors. They also look at the expectation of future earnings. The following characteristics affect, both positively and negatively, the future earnings potential of and the risks involved in a target business. Historical Earnings The history of a company’s earnings is very important to a prospective buyer. A long history of stable, and hopefully increasing, earnings is a positive factor in whether the buyer will pursue the acquisition. Conversely, a brief history or inconsistent earnings will certainly be a negative factor. A short time frame (for example, a company that has been in business for a year or less) and erratic earnings present obvious risk factors. Entrepreneurs often... read more

How Important Is the Asking Price?

Depends on whom you are asking. If you’re the seller, you might say that the asking price is too low. The buyer would say, obviously, that the asking price is too high. How can they both be right? Who decides? Most sellers have an idea of what they want for their business. It can be based on their knowledge of the industry and what similar businesses have sold for. It may be, however, based on just a wish. There is the old, but true, story of the two partners who decided to sell their business. When asked what the price would be, they both responded with the same answer – $2 million. When asked how they arrived at that price, they each said that they wanted to be a millionaire and two times $1 million was $2 million. Sellers often say that the asking price doesn’t make any difference since it can always be reduced. What they don’t realize is that if the price is not realistic, buyers won’t even look at it. Buyers are aware that they can make an offer, but if the starting point is too high, what they consider a fair price may be so low that why bother even making the offer. Studies using various data bases comparing actual selling prices of businesses with their asking prices show that the difference is about 15 percent for small businesses. The larger the business, the smaller the spread. Businesses sold for $1 million-plus sell for about 90 percent of the asking price, while smaller ones sell for about 85 percent of the asking price. The important... read more

Common Mistakes in Business Valuation

Not really defining what is for sale — Are all of the trademarks, copyrights, patents or other intangibles included in the sale price? For example, in the sale of a fast food chain, are the proverbial “secret recipes” included in the transaction price? Forgetting favorable attributes– A stone quarry may have one of the few available permits to excavate in a particular state or county, or a distribution business may own exclusive territorial rights, etc. These attributes should result in a premium on the valuation of the business. Not discovering the true level of earnings – Making accurate adjustments to earnings (normalization) is essential to recognizing the real earning power of a company. Not finding the value detractors – Nothing is perfect. Is the business concentrated in just a few customers? Is the equipment antiquated? Are the financial statements in disarray? Will significant capital expenditures be required in the near future? Consideration must be given to the impact of potential value detractors such as those listed above. Forgetting the real value of the assets – It is easy to forget that particular balance sheet items may be worth more than their indicated book values. For example, capital equipment may have been depreciated to an amount significantly under its actual value. Selecting the incorrect earning period to capitalize or discount – Are they last year’s earnings, an average of the past few years, or merely a projection of next year’s earnings? Historical earnings cannot be used if future earnings are expected to be substantially different. Choosing an inappropriate multiple or capitalization rate – Is it applied to EBIT or EBITDA... read more

Adding Value to Your Business

If you are considering selling your business, remember that there are positive factors that influence value and those that detract from it. Looking at your business from a buyer’s perspective is important since a prudent buyer will be adding and subtracting these various factors when arriving at an asking price. It is perhaps more important to recognize when the buyer arrives at a price at which he or she will leave the negotiations. Buyers naturally try to buy the business at the lowest possible price possible, however most also have a top price over which they are probably not willing to go. Here are some of the “high value” indicators as well as some of the “low value” indicators to consider when evaluating your business. Indications of High Value High sustainable cash flow Room for the business to grow Anticipated industry growth Competitive advantage – location, area, etc. Business niche History and reputation Low failure rate in industry Modern, well maintained facility Indications of Low Value Customer concentration on a few major customers/clients Reliance on owner Poor financials Distressed circumstances Few assets Product or service sensitivity Poor outlook for industry – regulations, foreign competition, price cutting, discount stores, etc. Considering the above factors and how to address them can help a seller look at the business through the eyes of a potential buyer. A professional business broker can help the business owner sort through the many areas that buyers consider when looking at a business and trying to arrive at an initial offering... read more

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