This article are provided for information purposes only, and are not intended as legal advice.


How do you value a business for sale? Part III

September 25th, 2008

Earnings multiples are very important to valuing a business for some people but that should not be the only thing looked at when valuing a company.  What does the balance sheet look like?  What are there assets of the company?  Are the liabilities of the company greater than the assets? What is the mix of liabilities, are the liabilities just to the owner or are they to trade creditors.  Are the liabilities to the trade creditors current or if they have not been paid in a long time, this indicates that there could be cashflow problems and the relationship with current suppliers may have been affected.  The supplier could put you on COD vs giving you credit.

 

In my experience, the area that is the most contested in the valuation of inventory.  What is the cost of the inventory?  What is the replacement cost?   How old is the inventory?  Is the inventory slow moving?  If it is, what is it worth?  I had a client who had to purchase a minimum of 2 dozen of each product.  If the company sells only 2 per month, this meant that it would take 2 years to sell all the inventory.  Buyers of a business do not want their money tied up for a long period of time in inventory.  The faster the inventory turnover is, the lower the amount of capital is required to be used to purchase inventory.  If you can purchase inventory in say 3 days from a supplier who is local or can pick up in an emergency on the same day, why would you keep 3 months sales in inventory?  If a product has not been sold in 2 years, is there any value in it?  Some people write off that inventory for tax purposes and when they sell their business, they want the new owner to pay for the inventory which is valued at nil on the balance sheet.  If the old owner could not sell it for any price, why would you pay for something that you may never be able to sell? 

 

if the business includes a building, what is the state of repair of the building?  Does it need a new roof?  Does the building pass fire codes?  Do you need an environment assessment to be done on the property?  These are all very important considerations when purchasing a business.


Filed under: Buy a business — Gary Landa @ 8:56 am


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