Fixed Assets – How do they affect business valuations? P.2
We left off last month addressing the dilemma faced by the owner of a marginally profitable business who recognizes that his asset rich operation will be viewed by many as worth no more than the liquidation value of the assets. How can this business owner sell his business for more than the mere value of the assets?
Let’s start off by discussing how a licensed equipment appraiser looks at the fixed assets in a business. The equipment in the business is in place and operating successfully to make a profit (though small) for the business. The appraiser correctly assumes that the equipment is being utilized for the best use and therefore will appraise the equipment for value in place for continued use which is the highest appraisal category in his arsenal. While bankers are not interested in this appraisal category, business buyers and sellers are.
This category is also important because some buyers, classified (unflatteringly) as “bottom feeders,” are always seeking out underperforming businesses which they will “help the owners out” by buying for the appraised liquidation value which is a significant step down from the above mentioned value in place for continued use. Unless a business is in dire straits, an owner should quickly abort discussions with a prospective buyer the minute the buyer starts talking about appraised liquidation value of the assets.
The value in place for continued use appraisal allows the business owner to establish with confidence a floor to the selling price of his business. A banker or business advisor can recommend experienced and reputable equipment appraisers.
The appraisal has established the floor to your business, now let’s move on to enhancing the value of the business. If the business has a positive cash flow, there is likely value to the goodwill. The easiest and most readily accepted approach is to add a small (1.5x to 3.5x) multiple of recent annualized and normalized cash flow to the equipment appraisal. Unfortunately, if cash flow is quite small even a 3.5x multiple of such limited cash flow will also be very small.
There are other approaches for enhancing the value of your business. You can impress upon the buyer that even though you have not been particularly successful operating the business, you have positioned it “perfectly” for future growth and profitability, and you will be glad to continue on with the business in a consulting capacity for monthly payments and/or a small (2% – 4%) percentage of the growth of the business (called “earn-outs”) due to your successful positioning efforts. Consulting and earn-outs generally have dollar ceilings and short (less than five years) sunset provisions. Business owners, stripped of operating responsibility after the sale, often embrace and are successful not only in a consulting capacity, but also in a sales role on a commission basis.
So if you want to sell your asset rich, underperforming business, get a value in place for continued use equipment appraisal and stick to your guns if and when bottom feeders seek you out. Then work with your business advisor to determine which (or more likely a combination of several) pricing enhancements add both dollars to your pocket and make the buyer feel that he is getting good value for these other deal components. At the end of the day, you will be able to strike a reasonable deal..
Contributed by Michael Greengard, Praxis Business Brokers.