Value Blog

I just read a post from Mary Bennett on the Blue and Black versus White and Gold debate (http://mlbennettconsulting.com/1/post/2015/03/black-and-blue-or-white-and-gold.html).  It is amazing how many people became involved with the debate over the color of a dress.  For a few days, it seemed like most people had something to say about the dress.  A week later, it is old news.  For those who missed the debate, see http://www.wired.com/2015/02/science-one-agrees-color-dress/

Back to the dress and how it relates to business valuation.  Mary made a very relevant point that struck home to the work that I do –  valuing businesses. She posted,

 “The phenomenon of the black and blue/white and gold dress is a simple reminder that we in fact do not experience the world in the same way.”  

I am not sure I could come up with a better way to explain business valuation.  The lens with which people view value can cause them to see it differently.

While we (business appraisers) used various applicable methodologies to arrive at a business value, the bottom line is that each person who considers the value of a company will perceive a different value as influenced by his or her experiences, risk tolerance, access to information about the business, intended purpose of the valuation, and specific investment objectives.   Other factors that influence perceived value include motivation, opportunities for synergies, and even lifestyle choices. Each individual’s lens most definitively colors how he or she sees the value of a business.

So the bottom line:  Is the dress black/blue or white/gold?  The simple answer is: Yes.

In the world of valuation, businesses can simultaneously have different values as well.

If you have questions about this or other valuation matters, please contact me.

©2015 Florida Business Valuation Group

Risk is defined as, “the possibility of loss or injury” according to Merriam Webster Dictionary.

In the context of business valuation, that usually means the possibility of reduced cash flow, which corresponds to a loss in value.  The higher the probability that cash flow could be affected, the greater the risk to the business.

The easiest way to remember the relationship between risk and value is:

As risk increases value decreases

Risk can generally be categorized as coming from things internal to the business or external to the business.  Starting with external risks, the biggest external risk for most companies is competition.  However, external risk can come from many other areas including:

• Regulatory changes;
• Technological advances;
• Catastrophic events such as a bombing in Boston or Hurricane Sandy in the Northeast; and
• Economic changes

While the occurrence of external risk factors may be impossible for a business to control, many businesses can take steps to minimize the impact of external factors.  A company that anticipates a regulatory change can often modify operations to work around the change.  Sometimes, companies can even find ways to benefit from change by offering improved products and services.  For example, hospitals have been anticipating the mandatory use of electronic medical records (EMR) for years.  Those who have embraced and implemented EMR may be in a superior position to compete with those who got a late start in implementing EMR.

Another way companies can often protect themselves, is by using insurance policies to cover the economic impact of catastrophic events.  Though insurance may not provide 100% coverage for a loss, it may provide sufficient coverage to minimize the impact to the value of a company.  Insufficient coverage may be a risk factor that a company has not considered.

There are also internal risks to a company, which arise from the reliance on internal resources.  Internal risks arise when there is dependence upon key personal without contingency or succession plans.  They can also arise when a company has a poor accounting system and limited internal controls.  Any operational weakness gives rise to an internal risk.

Internal risks may be easier, in theory, to control. However, in practice, it is often harder for owners and managers of a company to recognize and mediate internal risks.  For example, an owner may not see the value, in terms of cash flow, to implement a new accounting system to have better reporting.  The short-sighted view is that these investments in a new system will not increase revenue or cash flow.  While this may, on first blush be true, good financial reporting increases a manager’s ability to monitor revenue trends as well as manage the expenses of a business.  When this can be done in real time, rather than strictly on a quarterly or annual basis, management has the ability to change operations to benefit for trends or save money when spending is not necessary.  Internal control systems, such as POS (point of sale) systems, may not appear to generate revenue until an owner realizes that employees have been skimming cash from the registers for years.

So back to value:  the lower the risk the higher the value.

A company can increase its value by reducing its exposure to internal or external risks associated with operations.  Future posts on the blog will focus on ways businesses can minimize risk, thus increasing value.

If you have questions about this or other valuation matters, please contact me.

©2013 Florida Business Valuation Group

Most informed  sellers want to sell stock and buyers want to buy assets.  The reasons are relatively simple.

From the sellers prospective, given our current tax structure, sales of stock held for more than a year are generally taxed at the preferred capital gains tax rate.  So sellers want to be able to keep more of the sales proceeds in their pockets.

The buyers side can be a little bit more complex.  Typically a buyer is also motivated by tax considerations.  If a buyer purchases the assets of a company, he or she can allocate the purchase price to the various assets and possibly depreciate them.  But there is more to the buyer’s side.  When a buyer purchases stock, he or she is purchasing all the known and unknown liabilities of that corporation.

If you have questions about this or other valuation matters, please contact me.

©2011 Florida Business Valuation Group

The straight answer is you may not.  Unless the transaction is between family members or will be financed with an SBA loan, a valuation is usually not required.

The advantage to a business valuation is it provides the user with the value of a business or interest in that business.  The advantage to a business valuation is also the major limitation.  The business appraiser will usually provide a single value, based either on fair market value or investment value.  (See blog post here)

Value is a range, though, and there are many different types of value within that range.  As a buyer, you are only concerned with the lowest value within that range that you can pay.  If you can negotiate a lower price than fair market value, you will.

Valuations can be expensive.  If one is not necessary for you to negotiate a deal, you should not pay for one.

The seller has established a starting price for your negotiation.  What you need to determine is whether the cash flow from the business can support that price.

Each buyer has different criteria for whether a deal will work for him or her and there is no right answer.  The things that buyers should consider include:

• What is your risk tolerance?
• What is your required rate of return?
• How long are you willing to wait to get your investment back?
• Will cash flow from the business be sufficient to pay off any debt used to buy the business?
• Will cash flow from the business be sufficient to pay your salary if you are working in the business?

These questions will provide you will the information to determine if the asking price meets your criteria as a buyer.  A business may be worth $100,000, but a particular buyer may not be able to afford the asking price.

Price is the negotiated amount for a particular transaction.  While you need information to make an informed decision, a valuation will not necessarily give you that information.  Your financial professional should be able to assist you in determining whether the asking price of a business meets your criteria.

© 2009 Florida Business Valuation Group

When businesses are valued, the real estate is usually appraised separately by a real estate appraiser and then that value is used by the business appraiser in arriving at a value for the company.  Most business appraisers are not qualified or licensed to appraise real estate.

The value of an operating business includes the assets used in its operations to generate revenue and profits.   Real estate is usually considered separately from the operating business because investors have different return expectations for real estate, which is considered a less risky investment than ownership in a business enterprise.

In South Florida the cap rates for real estate are currently just over 7% according to a recent article in the South Florida Business Journal.  In contrast the rates for closely held businesses are much higher and can be well over 15% depending upon the business industry, the history and the future expectations for a company.

If the real estate were not segregated from the operating business in the valuation process, the real estate would be undervalued.   Businesses are generally riskier than owning real estate, so investors require higher returns.  The higher the rate, the lower the value.  Generally, real estate that generated $1,000 of cash flow would be worth more than a business that generated $1,000 of cash flow. 

When valuing a business, you may want to check with the business appraiser so that you can properly budget for any real estate appraisals that may be necessary as part of the valuation process.

© 2009 Florida Business Valuation Group