Why
would I need a Business Valuation?
| Selling
Out |
Tax
Related Litigation |
| Merger |
Estate
Planning |
| Divorce |
Selling
Stock to Key Employees |
| Review
of other Evaluations |
ESOP |
| Obtaining
Financing or Venture Capital |
Partnership
Dissolution |
| IPO |
Minority
Shareholder Disputes & Litigation |
| Buy-Sell
Agreement |
Bankruptcy |
| Value
Management Tool |
Equitable
Distribution |
| Exit
Strategy & Planning |
Leave
Business to Heirs |
| Capitalization |
Death
of Owner or Key Person |
| Gift,
Estate, Inheritance Tax |
|
No
matter what your reasoning or need for a valuation, we will
provide you with the documentation you require, the knowledge
you want and the support you deserve. Call us today to speak
to an experienced analyst.
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What
is a Business Valuation Consultation?
This
service provides the business owner or legal professional
a solid estimation as to the value of a small to mid-sized
company. The consultation can be handled on-site or completely
off-site, via telephone / fax / email. The painless process
is performed by a qualified valuation analyst, and will
be very informative. This service also includes a basic
consultation on value management, the development of an
effective exit strategy and/or a basic legal strategy consult
(if facing valuation litigation). The consultation is designed
to be a "same-day" type of service; provided the
financial information and the person with knowledge about
the company's operation are available. The company's financial
information is adjusted to reflect reality (adjustments
include personal perks, discretionary expenses and hidden
assets). The adjusted company information is then applied
to seven different approaches to value.
The
formulas include a cap rate, IRS' Formulas, SBA's Formula,
valuation industry formulas, and two weighted averages.
A summary of the analysis is compiled and forwarded to you.
Perfect for buy/sell negotiations, mediations, settlement
conferences or as an education on the elements that effect
and create value. If needed, 50% of the on-site fee or 100%
of the off-site fee could be applied to a more formal product
(a formal business valuation or a business solutions consulting
package), provided the upgrade occurs within 60 days of
the consultation.
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What
factor are considered when performing a Formal Business
Valuation?
There
are many factors to consider, both internal and external,
when performing a Formal Business Valuation. An in depth
analysis of all the factors is necessary to determine an
accurate opinion of value. Some of the factors to consider
are as follows:
| INTERNAL
FACTORS |
EXTERNAL
FACTORS |
| Historical
Performance |
Size
of Operation |
| Financial
Strength |
Within
its Industry |
| Profitability
& Earnings |
Within
its Market |
| Ownership
& Management |
Industry
Trends |
| Operational
Structure & Controls |
Competition |
| Size
of Operation |
Environmental
Factors |
| Forecast
/ Future Projections / Budget |
Economic
Factors |
| Business
Plan (whether written or formal) |
Legal
Protection of Products and/or Services |
| Condition
of the Operation |
Government
Regulations |
| Duplicative
Nature |
|
| Barriers
of Entry |
|
The
point is, there are numerous components that must be analyzed
when performing a formal valuation. Whether it is internal
or external factors that are positively or negatively effecting
the value of the company, the valuation must be performed
from an independent, investigative approach as to the opinion
of value. The use of an independent, qualified third party
is essential.
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What
is Fair Market Value (FMV)?
Fair
market value is the most common 'standard of value' for
determining the value of a business, company or professional
practice, to its owner, or in some cases, a prospective
buyer or investor. The definition of fair market value comes
from the Internal Revenue Services Regulation 20.2031-1(b).
That definition is: Fair Market Value is the price at which
the property would change hands between a willing buyer
and a willing seller, neither being under any compulsion
to buy or sell and both having reasonable knowledge of the
relevant facts. This definition has been expanded to reflect
the complexities of affectively marketing a business, company
or professional practice for sale. From a business appraiser's
perspective, the definition of fair market value is: the
price that a business could expect to bring, if it were
effectively exposed for sale on the open market for a reasonable
amount of time, assuming an informed seller and an informed
buyer, neither of whom is acting under undue pressure or
compulsion. Many business owners receive far less than fair
market value because they did not know how to get a proper
business valuation prepared and they did not develop an
affective exit strategy.
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What
is Business Value Management?
Business
value management (BVM) is exactly what the title implies.
As part of your day to day operations and directly tied
to your exit strategy, you must effectively manage the value
of your company. Your exit strategy will give you your managing
focus. If your objective is to sell to a strategic buyer,
then your list of value management priorities will be different
than the business owner who intends to go public with an
IPO.
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How
can I increase and manage the value of my business?
To
effectively manage the value of your company you must first
determine your exit strategy. The list of items to focus
on are the same, but your strategy will change your attack
priority. The easy way to understand the elements involved
is to separate the 'Science' from the 'Art' of value.
SCIENCE
The 'Science of Value' is the Key Business Ratios that help
determine the Profitability, Efficiency and Solvency of
your company. These are the analytical elements of value:
| Solvency
(Liquidity Ratios) |
Efficiency
(Operating Ratios) |
| Measurements
of liquidity |
Measurements
of productivity |
| Quick
Ratio |
Collection
Period |
| Current
Ratio |
Net
Sales to Inventory |
| Current
Liabilities to Net Worth |
Sales
to Total Assets |
| Current
Liabilities to Inventory |
Sales
to Net Working Capital |
| Total
Liabilities to Net Worth |
Accounts
Payable to Sales |
| Fixed
Assets to Net Worth |
|
| |
|
| Profitability |
|
| Measurements
of financial return |
|
| Return
on Sales (Profit Margin) |
|
| Return
on Assets |
|
| Return
on Net Worth (Return on Equity) |
|
ART
The 'Art of Value' is the elements that effect, increase
and substantiate the value of goodwill. These are the intangible
elements of value.
Customer
Lists
Established
Customer Base
Industry
Contacts, Supply Vendors and Service Companies
List
of Competitors
Business
Plan
Operational Systems & Controls
Employee Handbook
Safety Guide (some industries need more than others)
Training Guide
Maintenance Schedule
Operational Forms
Appearance and Cosmetics of Facility
It
is not to hard to tell which element of the valuation is
art and which is science. An extensive and complete valuation
requires consideration of both elements and will give you
the proper focus to effectively increase, sustain and protect
the value of your company.
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What
is an Exit Strategy?
An
exit strategy is your plan for leaving the business. Without
a plan for future harvest, you will most likely take far
less than what your company is truly worth. Without a plan
you will most likely be caught in a situation where you
feel as if the business owns you and you do not own it.
All too often business owners wait until they are well into
retirement age before considering how they plan to retire.
Business ownership is one of the only investments people
make where they do not think exit, at the onset. Exit being
the point where they cash out (and is that not where the
real money is made?).
There
are eight primary types of exit strategy from which you
must consider. Obviously there are many variations or combinations
of these eight strategies.
Selling to a strategic buyer
Selling to a financial buyer
Going public
Selling to your heirs
Selling to your employees
Liquidating your assets (referring to a planned liquidation/milking
of the company)
Enforced liquidation
Manage for life
Determine what you want your future to be. Take control and
plan ahead with an effective exit strategy. A formal third
party business valuation will give you the knowledge and foresight
to plan for the future.
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What
elements should I consider when establishing an effective
Exit Strategy?
Which
exit strategy (or combination thereof) you choose is going
to be dependent upon your situation, your market, your industry
and your company. Everyone's situation is different. If
you were to find two businesses that where alike in every
way (which is an impossibility), the owner's situations
would undoubtedly differ. So the first thing to consider
when trying to formulate an exit strategy is your personal
situation. You have to establish what you want personally,
and at what time of your life you want it to occur.
The
most important element to consider when establishing your
exit strategy is 'time'. Time plays such a major role in
many different areas. You have to consider the timing; is
it the right time for me personally - is it the right time
for the industry - is it the right time for my company -
is it the right time for the economy. You also have to consider
the time to complete the transaction. Then you must consider
the time needed for the transitional period, which will
vary depending on the strategy, the industry, the seller,
and the buyer. Time plays a major role in the process. Choosing
the right exit strategy is more than just choosing an exit.
A planned and organized exit strategy is a must. RSI will
help you develop your plan.
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What
is 'Goodwill'?
What
is 'goodwill'? The most important factor to remember when
discussing 'goodwill', is that 'value is a matter of perception.'
The buyer's perception of the business and his/her/their
perception of the opportunity. You must do what is necessary
to affect and effect the buyer's perception.
'Goodwill'
defined:
Intangible rights and non-physical resources
Company reputation and customer relationships
Established customer base
Long term employee relationships
Industry contacts and relationships
Operational systems and controls
Management structure
Longevity in industry and market
Percentage of market share
The
definition of 'goodwill' simplified:
'Goodwill' is nothing more than those elements to a business,
that tend to cause customers to return. 'Goodwill' is not
some arbitrary variable in which you have no control. You
can do what is necessary to increase and substantiate the
value of 'goodwill' by focusing on the items that will influence
the perspective buyer's 'perception of value'.
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What
are the different 'Approaches to Value'?
Four
approaches to value exist:
Asset
approach: an accounting measure of value; book value,
adjusted book value, and liquidation value.
Income Approach: a method that only considers the
income of the company as a factor in determining its value;
capitalization rate and multiple of earning.
Market approach: value is determined by comparing
the company with like companies that have sold in the past;
Price to Earning(P/E), Price to Gross or Revenue(P/G or
P/R), Price to Assets(P/A), Price to Seller's Equity (P/SE),
and Price to Cash Flow(P/CF) .
Hybrid approach: the use of two or more of the previous
approaches to value.
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What
are the different 'Standards of Value' and when do they
apply?
The
need for the valuation will determine the standard used.
The different 'standards of value' are:
Fair market value: used in a buy/sell, merger type
acquisition.
Fair value: used in ESOP's, breakup of a partnership,
and sometimes in a divorce.
Investment value: used by a buyer to determine the
value of the business 'to himself'. Used when selling part
for expansion (also referred to as strategic value). Based
upon the premise that the business is worth more as an investment
if owner is included (stays on). Under existing management
and plan, only capital is needed to take to next level.
Liquidation value: based solely on assets and liabilities.
Company stops operating as a going concern. Sells off its
assets, pays its debt, or includes the cost of liquidation.
Intrinsic value: Usually represents future value
or value based upon a perceived future outcome. Is useful
in a situation of extensive R & D or the development/proprietary
rights of a marketable product, copyright, trademark, or
patent.
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How
is a Capitalization Rate calculated?
A
capitalization rate is a number or percentage that is used
as a multiplier of the subject companies earnings to determine
value. It is an income approach to value. Capitalization
rates vary among particular types of businesses and from
one period of time to another. Expressed as a percentage,
the more speculative or the lower the expected growth rate
in the business's income stream, the higher the capitalization
rate; conversely, the less speculative or the higher the
expected growth rate in the income stream, the lower the
capitalization rate.
The two basic components of a capitalization rate are the
discount rate and a growth factor.
The
discount rate may be broken down into the risk-free rate
of return and a risk premium (financial and market). The
risk-free rate of return includes the investors' required
rate of return for the risk less use of their funds and
a factor for inflation. The rate of return earned on long-term
U.S. Government bonds is considered a good proxy for the
risk-free rate of return. The risk premium return is the
additional rate of return required by investors in the market
to compensate them for the additional risk in investing
in a stock security as compared to a long-term U.S. Government
security. This information is obtained in the Ibbotson Associates'
Stocks, Bonds, Bills and Inflation (SBBI) Yearbook which
is information gathered between 1926 and 1998. The information
is then used to establish the average total returns earned
on large corporate stocks and on the smaller stocks traded
on the New York Stock Exchange (defined as the lower 20
percent).
Summing
the risk-free rate of return with the equity and small stock
risk premia equals the average total return required by
investors to induce them to invest in the smallest stocks
traded on the New York Stock Exchange. However, investing
in the stock of a closely-held business involves additional
elements of risk which must be compensated by offering a
higher rate of return. The additional risk may be from specific
risks associated with the industry or the company as compared
to the entire marketplace. Although there is little empirical
evidence to assist the appraiser in determining this subjective
risk premium, the following factors are considered:
1.
The business's financial ratios.
2. The long-term outlook for the subject company's industry.
3. The depth of the subject company's management.
4. The degree of competition for the subject business's
revenues.
5. The historical trend in the company's after-tax earnings.
In
order to calculate a capitalization rate, it is necessary
to subtract the company's expected long-term growth in earnings
from the discount rate. The result of subtracting the business's
expected long-term growth rate in earnings from the discount
rate would result in the capitalization rate for the next
year's earnings. Obviously a capitalization rate cannot
be a number or percentage that can be just pulled out of
the sky. All the above factors must be considered by a qualified
analyst.
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What
are P/E, P/R, P/SE, P/A, and P/CF?
P/E
(price/earnings), P/R (price/revenue or price/gross), P/SE
(price/stockholder's equity or price/seller's equity), P/A
(price/assets), and P/CF (price/cash flow) are all market
approaches to value. The theory is that the market determines
the appropriate multiplier or capitalization rate (ratio)
to use when determining value. The objective is to compare
(the company being analyzed) with actual sales transactions
of like businesses that have sold in the past (over the
last 5 to 10 years). You would then determine a range and
an average ratio for all the market approach formulas being
considered. Those ratios are applied to the revenue, earnings,
assets, stockholder's equity, and cash flow of the company
being analyzed. In theory, you now know what the company
is worth because you determined its value based upon what
the market will bare.
The
things to consider when using a market approach to value are
the variables involved in the various transactions considered.
Since it is impossible to know all the variables involved,
you must ask yourself some simple questions about the companies
used in the analysis:
1.
Did the firms receive a proper valuation or did they
just throw a dart at the wall to determine value?
2. Were the companies marketed properly and for a reasonable
amount of time?
3. Did the owners sell when they wanted to not when
they had to?
4. Did the owners have an exit strategy?
5. Were the companies given away at asset value without
considering 'goodwill'?
6. Was fair market value even considered?
When
performing a valuation, it is important to ask the right
questions, consider the different variables, and compare
the market approaches to value with the other approaches/formulas
being used. If an appraisers primary method of determining
value is to use a market approach to value, FIND ANOTHER
APPRAISER! We feel it is the 'lazy appraiser' approach to
value.
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What
is a Control Premium, a Minority Discount and a Marketability
Discount?
Control
premium: a control premium is an addition to business' value
due to the ability of the shareholder to make corporate/business
control decisions such as declaring dividends, liquidating
the business, going public, issuing or buying stock, directing
management, etc.
Minority
interest discount: a minority interest discount is a reduction
in the business' value due to a lack of control prerogatives
such as declaring dividends, liquidating the company, going
public, issuing or buying stock, directing management, setting
management's salaries, etc.
Adjustment
for lack of marketability: marketability discounts are calculated
separately from minority interest discounts and control
premiums. Marketability discounts sometimes are needed because
several approaches to valuation are calculated using comparable
sales or discount rates that are based on marketable business
interests.
In
actual application, the control premium or minority interest
discount usually is applied before the marketability discount
to determine the fair market value of the business interest
on a freely traded basis. Once the marketability discount
has been applied, the result is the fair market value of
the closely-held business interest. Subtracting a discount
for lack of marketability is the final adjustment normally
required when valuing a block of closely-held stock. Because
many valuation approaches rely on data generated from securities
from the public marketplace, the results are for freely-traded
stock. Because closely-held stock is not as freely traded
as publicly traded stock, investors will require a discount
to compensate them for the closely-held stock's relative
illiquidity.
The
quantification of the marketability discount usually involves
comparing the stock prices of common stocks that are identical
except for the fact that one group of stock is classified
as restricted stock. Over the past twenty-five years, numerous
studies have indicated that the discount for lack of marketability
in the public marketplace is approximately 30 percent to
40 percent. A formal business valuation, performed by a
qualified business appraiser, will consider all factors
involve to determine the appropriate premium or discount
relevant to the situation and the standard of value being
calculated.
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What
options do I have to successfully market my company for
sale?
There are only a limited amount of options available for
marketing your company for sale. They are to advertise yourself,
use a realtor or business broker, liquidate, or use a professional
marketing firm. The primary issues to consider when trying
to determine the best option for you are (in no particular
order):
1.
Maintaining confidentiality.
2. The time it will take to get the job done.
3. Getting fair market or even a premium.
4. Screening/Qualifying prospective buyers.
5. The cost of the process.
6. Being able to justify your asking price.
RSI
will consult with you on your options and if necessary,
send an analyst to your business for an on-site consultation
to help determine which option is best for you.
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Is
there any way to avoid Tax from the sell of my company?
There
are many factors that will determine your level of post
sale tax liability. A starting point is whether the transaction
is to be structured as a stock or asset sale. Most business
sales are structured as asset sales because of important
buyer tax benefits. There are many questions that require
answering in structuring asset sales. What are you buying
and selling?...usually some tangible assets, goodwill, booked
business, non-competitive agreement, and consulting by the
seller. What are the tax implications of these allocations?
Each transaction requires careful structuring for both the
buyer and seller. Contrary to popular opinion, your accountant
(in most cases) is not the expert to consult with on merger/acquisition
tax gains liability and avoidance issues. This is due to
the fact that your accountant is trained to calculate the
tax that you owe. He/she is not typically trained in structuring
the company and/or the transaction to avoid tax.
RSI
works closely with several creative certified financial
planners, estate attorneys, and tax consultants (SEE PARTNERS)
that specialize in the areas of tax, financial, and estate
planning. Their specialty is structuring your company (in
preparation for a future transaction) or structuring 'the
deal" to help you avoid paying unnecessary tax. There
are several creative and legal methods that can be used
to reduce and in some cases eliminate your post sale tax
liability. Many of these methods must be established prior
to the sale and in some cases before entering into negotiations.
In most cases, a formal third party business valuation is
recommended to help in the process and to defend the plan,
if necessary.
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