Volume 37, Issue 6, June 2002
The Market Approach
Determining the Value of Your Business
by Richard S. Moreno
Want to sell your business? Think you know what you can get for it?
Here’s a reality check for you: buying or selling a business is a dizzying process, and it helps to keep your eyes open from the start. Indeed, the more thoroughly you prepare for it the better off you’ll be.
As discussed in last month’s column, one way to estimate the value of your business is to look at the income it produces. But in the glass industry, it’s important to consider many other factors in arriving at a realistic price for buying or selling a going concern.
The Market Approach
One valuation method, the market approach, considers the prices at which comparable businesses sell, much as you consider the selling prices of houses in your neighborhood when figuring out what to ask for your own. This is more easily said than done as no two businesses are alike in every respect, and the factors that make one business fetch a given price may not govern another sale.
Even so, since the market method considers the actual prices at which other businesses sell, it offers compelling evidence of the likely value of your own. Not surprisingly, it is also the method most likely to persuade the courts when litigating marital dissolutions or dissenting stockholder disputes, or the IRS when resolving gift- or estate-tax matters.
In general, the market method considers:
• The stock prices of companies in the same industry traded on open exchanges;
• The selling prices of entire companies, whether public or private, available from both government sources and private databases;
• The prices of stock traded within the company via buy-sell agreements or employee-stock ownership plans—prior stockholder transactions, as they are known.
Uncover the Differences
It is crucial, however, to “weight” this data to reflect differences in revenue, margins, earnings, assets, return on assets, debt and a host of other factors making one business different from all others. In plain English, this means that, just as we saw in last month’s column, you must dig into your financial data to uncover the real meaning of profit. You must also weigh every factor that makes your company different from all others.
Assume, for example, that Company A sells for one-time revenue, meaning that if it generates $10 million in revenue, it sells for $10 million too. Digging into the details of the sale, you find that its books show heavy, long-term debt, depressing earnings. Your own company generates $15 million in revenues but carries half the debt. You also find significant differences in margins and returns on assets.
At this point the process becomes as much art as science, the object being to arrive at something as close to an apples-to-apples comparison as you can get. How do your earnings compare to those of Company A, factoring in the extra value represented by your lighter debt load? How do your margins compare? Your return on assets? What about recent shareholder transactions involving a buy-sell or an employee-stock-option plan?
When all is said and done, you should run your own reality check:iIf you were buying your business, what return would you expect on your money? How much would you have to invest to earn that return?
The better you answer these questions, the easier it is to sell a going concern—and the more likely you are to come out of the process satisfied that both you and your buyer received value from the deal.
Richard S. Moreno, CPA, of Los Angeles has more than 20 years experience assisting companies in the glass industry with financial matters. You may e-mail him at firstname.lastname@example.org
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