Value Blog

Valuable Answers to Your Business Valuation Questions

02 Jun

What is included in the value of a business?

Posted in General valuation topics on 02.06.10

The value of a business generally includes the value of all of the tangible and intangible assets owned by the business. Whether the value of the business includes all of the assets (and liabilities) of the business will depend upon a few things.  First, either the equity (stock or other ownership interest) that owns the business can be valued or the assets used in the business can be valued.  The general rule is: buyers want to buy assets and sellers want to sell stock.  Sellers want to sell the stock or other ownership interest mostly for tax purposes.  Whereas, buyers want to buy assets for tax purposes, but also to avoid potential liability associated with the entity.

The purposes of a valuation will often dictate what is included in the value. For estate and gift tax purposes, the value is of the stock or equity interest owned.  For transactions, the value may or may not include all the assets and liabilities.  In transactions, the purchase agreement usually specifies which assets and liabilities are included in the transaction.

It is important to distinguish between what is included in the value and what is included in different multiples based on market methods methods.  For example, the multiples from BIZCOMPS®, a transaction database, are assumed to be asset sales which exclude cash, accounts receivable, accounts payable and inventory.  Other operating assets such as the equipment used in the business are included in the value arrived at using BIZCOMPS® multiples.  Multiples from the Pratt’s Stats® database, on the other hand,  are for both asset and stock sales, as indicated for each transaction.  Some transactions include the working capital of businesses while others do not.  Transaction multiples from the Pratt’s Stats ® database need to be examined for the details of each transaction.

Within industries, there are often rules of thumb used by business brokers to estimate the value of business.  Different industries treat the assets differently. Beer taverns, according to the Business Reference Guide, sell for 6 times monthly sales plus inventory OR 1 to 1.5 times annual earnings before interest and taxes OR 55 percent of annual sales plus inventory.  Other types of establishments that sell alcohol have different multiples and treat the assets differently.  Rules of thumb for cocktail lounges either add inventory back, add liquor license and inventory, OR add fixtures, equipment and inventory.  As illustrated, different multiples from different sources result in values that need adjustments for different assets and/or liabilities.

So what does all this mean?  A business valuation will clearly state whether the stock or equity interest in a company or the net assets are being valued. If a business valuation has not been done, understand the value from the multiples you chose.  If necessary adjust for assets and/or liabilities which are not included.

©2010 Florida Business Valuation Group

Share

tags: , , , ,

No Comments »

11 Jun

Does a single transaction represent market value?

Posted in General valuation topics on 11.06.09

One of the approaches to valuing a business is the market approach.  This approach looks to either private transactions or publicly traded stock to develop an indicator of value, usually in the form of a multiple.   Is a single transaction representative of the value in the market?

With public companies, the marketplace allows for buyers and sellers to negotiate each transaction by using bidding system.  A buyer will indicate what he wants to pay for a stock and a seller will indicate what he wants to sell the stock for.  When buyers and sellers are matched, there is a sale.  The public stock exchanges provide an efficient system for trades.

When a public guideline company method is used to value a business, comparable companies are identified and the information from the market is used to develop a market value.  Because the data captures the prices paid in the market, it is considered to be a good proxy of fair market value.  Since there are many transactions for each company, it is not necessary that an appraiser use a large number of comparable publicly traded companies in applying this methodology.  (The IRS heavily favors using publicly traded companies as a basis for value in developing opinions of value.)

When comparable publicly traded companies are not available, we look to private markets.  Private markets are no where near as efficient as publicly traded markets.  Often, limited information is available about the sale and the company operations.  Private companies are not require to report information and most information available is from database services that collect the information from brokers and intermediaries.

Since private markets are not efficient, the sales prices usually reflect an investment value rather than fair market value.

With all these challenges, how do we use these private transactions to develop indicators of fair market value?  Using private transactions is based on the concept that when transactions for similar companies are looked at together, these values represent the market as a whole.  The values for companies sold at distressed prices offset the values for companies sold at premiums, resulting in a market value.

Since the private transaction methodology relies upon a group of transactions to extrapolate multiples representative of the entire market, it is necessary to have a sufficient number of transactions to achieve this.  The problem is there is no absolute number.  We know that you need more than five transactions to get a statistically valid multiple.  Most agree that you need more than ten transactions.  The obvious answer is the more the better. With more transactions, an appraiser is better able to analyze the data into groups and arrive at a multiple based on factors that are similar to the company being valued.

While a single transaction price may be representative of fair market value, it is not sufficient to prove fair market value.  Remember price does not necessary equal value.  Price is the negotiated amount at which a transaction takes place and can be influenced by non-market factors.

For more information on the market approach, click here.

©2009 Florida Business Valuation Group

Share

tags: , , , , , ,

No Comments »