Part 1 of 2
You are contemplating the sale of your manufacturing business (or for that matter any business rich in fixed assets), and you are unsure how (1) your fixed assets are valued and (2) the impact the valuation has on the price of your business. These are good questions, and you should be commended for addressing the fixed asset dilemma before listing your business for sale.
The same fixed asset can have any number of different values depending on the intent of the valuation. For instance, for insurance purposes the asset can be valued at replacement cost which could be higher than the equipment’s original cost. Or the value for insurance purposes might be at the original cost, but it will most likely be valued at the original cost less a rather arbitrary amount for depreciation.
Your banker will look at an asset as strictly collateral for a business loan, and as such he will only lend say 65% of “hammer value”, the projected net liquidation price at a dispersal auction. Such a valuation approach from bankers often shocks and disappoints borrowers.
Your CPA will put the equipment on your books at cost, then depreciate it according to GAAP guidelines. With allowable accelerated depreciation schedules, your piece of equipment can quickly have little remaining book value. Even with a straight line depreciation schedule, most equipment has zero book value after seven years even though you project a useful life of 15 years or more.
What about a business sale – how are fixed assets valued within the framework of a business transaction? If you are a nicely profitable business you probably (correctly) view your fixed assets as mere tools for creating sales and profits for your business. In the larger scheme of things the value of the fixed assets really shouldn’t matter as the business will generally be valued by a buyer in terms of a multiple of EBITDA which will result in a considerably higher dollar amount than the value of your fixed assets no matter how the assets are valued.
But what if your company owns a great array of equipment with lots of perceived value, and you have an underperforming business which is not generating an impressive profit like the business in the above paragraph? In fact you believe that the current replacement value of your equipment (on a used basis in similar condition) could actually be higher than a relatively low multiple of your EBITDA. Clearly you are not going to sell your business for less than the assets could be sold piecemeal on the used equipment market. What do you do now? How can you sell your business for more than an orderly liquidation price? We will address this issue and more fixed asset matters in next month’s blog..