Asset
valuation is used when a company is asset-intensive.
Retail businesses and manufacturing companies
fall into this category. This process takes into
account the following figures, the sum of which
determines the market value:
-
Fair market value of fixed assets and equipment
(FMV/FA) - This is the price you would pay
on the open market to purchase the assets
or equipment.
-
Leasehold improvements (LI) - These are the
changes to the physical property that would
be considered part of the property if you
were to sell it or not renew a lease.
-
Owner benefit (OB) - This is the seller's
discretionary cash for one year; you can get
this from the adjusted income statement.
-
Inventory (I) - Wholesale value of inventory,
including raw materials, work-in-progress,
and finished goods or products.
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Capitalization
of income valuation Return to top
Capitalization of income valuation method places
no value on fixed assets such as equipment, and
takes into account a greater number of intangibles.
This valuation method is best used for non-asset
intensive businesses such as service companies.
In
his book "The Complete Guide to Buying a Business"
(Amacom, 1994), Richard Snowden cites a dozen
factors that should be considered when using Capitalization
of Income Valuation. He recommends giving each
factor a rating of 0-5, with 5 being the most
positive score. The average of these factors will
be the "capitalization rate" which is multiplied
by the buyer's discretionary cash to determine
the market value of the business. The factors
are:
-
Owner's reason for selling
-
Length of time the company has been in business
-
Length of time current owner has owned the
business
-
Degree of risk
-
Profitability
-
Location
-
Growth history
-
Competition
-
Entry barriers
-
Future potential for the industry
-
Customer base
-
Technology
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Owner
benefit valuation
This
formula focuses on the seller's discretionary
cashflow, and is used most often for valuing businesses
whose value comes from their ability to generate
cash flow and profit. It uses a fairly simple
formula: you multiply the owner benefit times
a multiple consistent with the industry to get
the market value.
Multiplier
or market valuation
This
approach finds the value of the a business by
using an "industry average" sales figure as a
multiplier. This industry average number is based
on the price at which comparable businesses have sold recently.
As a result, an industry-specific formula is devised,
usually based on a multiple of gross sales. These formulae can be troublesome,
because they may not focus on bottom line
profits, cash flow, or take into
account how different two businesses in the same
industry can be.
Here
are a few industry multiplier examples:
from "The Complete Guide to Buying a Business" by Richard Snowden (Amacom,1994)
-
Travel agencies - .05 to .1 X annual gross
sales
-
Ad agencies - .75 X annual gross sales
-
Retail businesses - .75 to 1.5 X annual net
profit + inventory + equipment
To
find the right multiplier for your industry, you
may try contacting your trade association. Another
option is to utilize the services of a broker
or appraiser who specializes in businesses such
as yours - or one with broad experience, such as George and Company.
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