Business Valuation 101

October 2, 2015

By Toni Jakovec

 

The initial excitement and optimism of buying a franchise is the catalyst that drives your dreams to reality. You are a business owner.  You are your own boss. You love your products and take pride in your ability to be successful.  Overall, all’s right with the world.  Then, you have to fill out one of those forms that asks, “What’s your net worth?” This in turn spurs the question, “What is my business worth?”

business-valuation-101

 

vomFASS has not yet had a franchise sale within our family, but we understand it is important to know the value of your business, and to be able to put a hard number on your work and dedication. How do you estimate the correct assessment?

 

Whether you are using this information to buy a new house or to flip your business, you do not want to overestimate the value of your business, but you do not want to leave money on the table either. The appropriate valuation is the most important aspect of the sale of a successful business and the advice of a professional appraiser or business broker is recommended.

 

Here are examples depicting the three most common approaches to estimating a business’ worth. BizBuySell was invaluable in explaining these methods.

 

 

Evaluate the assets

Make a list of the business’ assets.  This would include any equipment, inventory, furnishings, fixtures, etc. that are necessary to run the business and which would have to be purchased by someone starting from scratch.  Estimate their actual value considering original cost, use, age and condition.  Take the value of your assets and subtract your business liabilities to determine a general estimate of your business’ net worth.  This method does not include cash flow, intangibles and other factors, but can be a very useful tool as you navigate the valuation waters.

Use earnings multiples

Multiples are ratios of business value to key financial indicators, usually revenue and cash flow. Multiples vary according to business type, geography, and a wide host of other factors. As a result, business values typically range from one to four times annual cash flow. When evaluating multiple ranges, consider key questions such as:

  • Does your business have positive revenue and profit trends?
  • Does your business feature exclusive products or territory?
  • Is it prohibitive for entrepreneurs to start similar businesses from scratch?
  • Do your business benefit from recurring revenue from established customers?
  • Does your business have a proven brand, a respected reputation or a leadership position in its industry?

If you answer “yes” to one or more of these questions you are likely justified using a multiple at the higher end of the spectrum.

Income based evaluation

When basing an evaluation on income you will need three years of financial statements.  These statements include:

Income statement detailing gross revenue, expenses and bottom line profits (or losses)

Cash flow statement showing how money moved in and out of your business, and how business assets changed as a result

Balance sheet showing the value of all tangible assets and liabilities

At this point, a professional accountant or bookkeeper may be needed to adapt your business income into a statement of owner’s cash flow or statement of seller’s discretionary earnings (SDE). While the income statement reflects the full range of normal and legal deductions, the SDE or owner’s cash flow statement presents the full earning power of your business after adding back one-time, non-recurring purchases and discretionary expenses not essential to business operations. It is this full earning power of your business that is, ultimately, of key concern to prospective buyers.

Analyze the picture painted by several years of financial statements to understand how your business is growing (or not) in terms of top-line revenue and bottom-line income and what that means for cash flow and seller’s discretionary earnings. These trends will have a significant impact on your ultimate asking price.

Most experts agree that this is the best means of valuing a business. Unfortunately, it’s also rather complex. As a result, most business owners will want to employ a business broker or appraiser who will use the inputs outlined above to derive a business valuation range via this approach. However, by assembling the financial statements and looking at the financial trends you will be able to better understand, assess and be comfortable with the resulting valuation.

The value of tangible assets of your business gives you an approximate “liquidation” value. Earnings and other valuation multiples give you a sense for the market and a ballpark estimate for the value of your business. At the end of the day, however, you will want to employ the income-based approach to really understand the value of your business to a prospective buyer. To do that, most business owners will want to employ the services of a professional appraiser or business broker if they are in the market to sell their business. The fee charged by these professionals is money well-spent to ensure that you set the right price for your business. After all, if you don’t set the right price, you’ll either fail to attract buyers or not receive the full return on your investment.

From Toni’s Kitchen

Here’s a perfect week night dinner.  Marinate for one hour or the night before for an easy and healthy dinner everyone in the family will love.  The salmon is shown on a bed of Israeli couscous.

recipe-salmon

Honey Sriracha Salmon

 

  • ¼ cup Low sodium soy sauce
  • 1 T. Honey
  • 2 T. vomFASS Honey Star Balsamic
  • 1 T. Sriracha
  • 1 T. Ginger, grated
  • 1 T. Ginger, minced
  • 1 lb. Salmon, cut into 4 steaks
  • 1 ½ t. vomFASS Toasted Sesame Oil
  • 1 T. Sesame seeds
  • 2 T. Scallions, sliced thinly

 

  1. In a 1 gallon zip-top plastic bag, combine soy sauce, honey, vomFASS Honey Star Balsamic, Sriracha, gingers and garlic. Add the salmon, toss to coat evenly and refrigerate for at least 1 hour or up to 8 hours, turning the fish once.

 

  1. Remove salmon from the bag; reserving the marinade. Heat a large sauté pan over medium-high heat and add the vomFASS Toasted Sesame Oil.  Rotate the pan to coat the bottom evenly and add the salmon.  Cook until one side of the fish is browned, about 2 minutes.  Flip the salmon and cook until the other side browns, 2 more minutes.  Reduce the heat to low and pour in the reserved marinade.  Cover and cook until the fish is cooked through 4-5 minutes.

 

  1. Place a piece of salmon on each plate and sprinkle with sesame seeds and scallion slices.

 

Disclaimer: This information is not intended as an offer to sell, or the solicitation of an offer to buy, a franchise. It is for information purposes only. Currently, the following states in the United States regulate the offer and sale of franchises: California, Hawaii, Illinois, Indiana, Maryland, Michigan, Minnesota, New York, North Dakota, Oregon, Rhode Island, South Dakota, Virginia, Washington, and Wisconsin. If you are a resident of one of these states, we will not offer you a franchise unless and until we have complied with applicable pre-sale registration and disclosure requirements in your jurisdiction.