Humor aside, it really does depend on both your starting point and destination. Let’s get the destination out of the way first. Most owners are looking for the price they can get for their business. Other destinations can be IRS value, fair value for stockholder issues, equity value, bankruptcy or incremental value. There are more, and each end goal requires a different starting point and map to the end.
When considering selling a business, the value that is normally looked for is the Market Value. What will a buyer likely pay for my business? Then to complicate things, an owner will usually have one value in mind and a buyer will have another. The owner will usually value the business based on total financial benefits received such as earnings, health insurance, use of an auto, non-business travel, etc. The resultant figure will be applied to numerous formulas using standardized rules for developing a value range. This range can be surprisingly broad. It depends on the uniqueness of the business, performance levels, desirability and so much more. Good news is the range will give you a good idea of where offers may come in.
On the other hand and here is the caveat, buyers may have a significantly different idea of value. A seller often has a value in mind based on how much sweat, time and care they put into the business. Buyers will have a value based on how much time and energy they will have to put into the business to not only make the salary needed, but to store up nuts for a bad winter and then to make a return on their investment. For example, we sold a manufacturing company in a great area, producing a high demand product and made over $800K Seller’s Discretionary Earnings. It sold for more than asking because all those factors were solved. We sold another smaller company for far less than initially asked because the business was in a down cycle, had many competitors, a low barrier to entry, and low earnings. When the buyer looked at the near term earnings potential after debt service, there would be losses. Consider this: businesses in this industry sell for strong multiples of earnings because profit to the buyer is usually substantial. This 2nd business initially looked promising; but, after new debt service, additional capital needed, cash flow and other factors, the business produced little to no earnings for a buyer. None of those factors, above, were fulfilled.
To summarize, price and value are not the same. Value to the seller is rarely the value to the buyer. The price a buyer is willing to pay is based on what they will receive. Their value is also tied heavily to business cycles and economic cycles. Finally, always keep in mind that the price a business is sold for will depend on the buyers’ perceptions and terms offered. There will be more about terms later.
John D. Young, CBB
Certified Business Broker
If you have any questions, feel free to contact Joan Young, President of Sunbelt Business Brokers, Greater Bay Area – [email protected]. Sunbelt also handles Mergers and Acquisitions.