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


Buying a business next year, do you need to normalize profits to reflect the benefits of HST?

February 11th, 2010

You are looking to buy your first business and you have just started your search.  Often it takes up to 12 months in order to buy your first business.  The business that you have found is located in Ontario.  The owner of the business wants a multiple of earnings and you have agreed to the multiple.  Is the multiple based on normalized earnings?  What is the definition of normalized earnings?  Traditionally, it is the earnings that would continue under the new business owner and would exclude any personal or unusual expenses of the previous owner.  No one every considers what happens if expenses are lower for a temporary period or permanently as a result of the implementation of HST?  Should this be factored into normalized earnings?

 

As I had indicated in my previous blogs, there is an opportunity for businesses to save money if they are subject to provincial sales tax and if they are subject to GST.   If the business has to pay PST/RST on supplies consumed for their own use, if they defer their purchases and buy products in July rather than May, they may be able to save the 8% PST on those purchases delivered after July 1.  HST is a tax which is collected by businesses but is not an expense to a business. A business remits the GST/HST it collects from customers less what it has paid out to other businesses.  This affects the businesses cash flow but not their profit.  If the business had to pay PST on items included in the income statements, effective July 1, they no longer have to pay it.  The 8% that they normally have paid will now be called HST and that is now a refundable tax, they no longer have to pay it and incur the expense. 

 

Many buyers of businesses/investors look at the last three years financial statements and normalize profit over a three year period.  If a business paid PST for its supplies in prior years, it won’t have to pay after July 1 if they are located in Ontario or British Columbia.  The historical financial statements reflect a lower profit because PST was expensed.  If the prior years financial statements had $50,000 per annum of PST included in its financial statements because the were required to pay it, that means that its profits if all things were the same would be $50,000 more after July 1 than prior to July 1.  Do you increase the normalize earnings of the prior years to reflect the PST included in the expenses?  If a buyer is willing to pay a multiple of 3 times your normalized earnings, a $50,000 bump in normalized earnings will result in an additional $150,000 in purchase price in this example.

 

You may want to speak to your business broker to see if the implementation of HST will affect the purchase price of the business that you are either looking to sell or looking for the business that you want to buy.


Filed under: Buying a business,Selling a business — Gary Landa @ 9:59 am


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