Archive for January, 2009

While there are no truly recession proof small businesses, fitness centers come close. And there are good reasons for this:

  • Health club membership continues to grow as more and more people realize the health benefits of regular exercise.
  • Excercise is an excellent stress reducer.
  • Health club members enjoy the social benefits of participation in regular activities with others.
  • Many employers and insurance companies offer membership benefits.
  • There is a wide choice of affordable health center facilities available, including privately owned and publicly funded fitness centers such as YMCAs.

Some key industry statistics

There are over 46,000 fitness centers in the US alone. The industry as a whole generates some $11.2B in annual revenues, and employs just under 303,000 staff.

Yet a typical health club is small business – averaging around $300,000 in annual sales with 7 employees.

Factors that affect the value of businesses in the fitness industry

If you are wondering what factors affect the value of a fitness business the most, here is the short list:

  • Profitable history. Despite strong competition from full-service health clubs, small fitness centers that generate consistent earnings from a well-established client base continue to thrive.
  • Strong client retention. Successful fitness centers have the client retention at or above 69%.
  • Focus on a market niche. A gym can develop a loyal following if it focuses on a specific demographic, such as women, children or family oriented.
  • Location and facilities. State of the art exercise equipment is essential for client retention. Convenient access and easy parking are also key to keep the members happy.
  • Quality of the fitness programs. Many successful clubs establish themselves due to the quality of their personal trainers, tennis school staff, swimming instruction and other acquatic activities.

Valuation multiples for health clubs

Fitness centers sell often, so you can get reliable data on the private business selling prices. You can estimate a health club market value using these valuation multiples:

For larger or multi-location fitness centers, consider these valuation multiples:

  • Business sale price to EBITDA.
  • Price to EBIT.

For a highly accurate business market value assessment consider using a number of valuation multiples at once. This way, you can determine your business value based on its revenue, profitability, and asset base.

Business Market Value Estimation

Other business valuation methods for fitness centers

As with other personal service businesses, you can determine the value of a health club using the income-based business valuation methods. For smaller fitness centers that are owner-operator managed, consider using the Multiple of Discretionary Earnings method.

You can determine what the business is worth based on its discretionary earnings and a set of important financial and operational performance factors.

For larger fitness centers you may wish to use the well-known Discounted Cash Flow method. This method is especially useful if you have reliable earnings forecast and need to negotiate with sophisticated investors or potential partners.

A successful health club may have established itself as a true institution in its market. If you are valuing a business like that, the value of business goodwill may be an important factor in your assessment.

You can use the classical Capitalized Excess Earnings method to determine the value of the entire business as well as business goodwill. This may be very important if the fitness center is to be sold and the purchase price needs to be allocated among its hard assets and goodwill.

Are you a seasoned business person or experienced professional? Then you know that getting your business appraisal done right is one of the most demanding challenges you are likely to face.

Idle curiousity aside, a casual “spot check” somewhere on the Web will not do. As the economic climate gets tougher, your business valuation must pass greater scrutiny to be taken seriously by other business people, tax authorities, legal experts, investors or courts.

So how do you make sure your business appraisal stands up to the challenge? The short answer – standards compliance.

How business valuation standards help

Since your business appraisal is likely to be shared with other business people, it needs to be clear, convincing and trustworthy. A standards compliant business appraisal tends to be more believable because:

As others read your business valuation report, they will see that you have used the well-known business valuation approaches and methods, followed the steps necessary to make sure your business appraisal is thorough and accurate, and reported your results in a clear and defensible manner.

Leading business valuation standards

Here are the key business appraisal standards you need to consider:

  • Uniform Standards of Professional Appraisal Practice (USPAP). They are revised annually by the Appraisal Foundation.
  • AICPA Statement on Standards for Valuation Services (SSVS). This Standard came into effect in early 2008 and is followed by the CPAs who do business valuation work.
  • International Valuation Standards (IVS). Cover both business and commercial real property appraisals.
  • US Internal Revenue Service Ruling 59 – 60. If you need to present your business appraisal to the IRS, e.g. for gift or estate tax purposes, make sure it complies with the Ruling 59 – 60.

How ValuAdder helps you with standards compliance

All ValuAdder tools are designed with the business valuation standards compliance in mind:

ValuAdder V5 software gives you a set of standard business valuation methods under all three professionally recognized approaches: Market, Income, and Asset.

Business Valuation Report Builder gives you a professional report format along with instructions and references on how to prepare a standards-compliant business appraisal report.

ValuAdder Handbook is full of essential information on how to prepare a professional business appraisal – and ensure that it complies with the standards.

If you are wondering how the current economic downturn is affecting the restaurant values, there is no better way to find out than by studying the recent business sales. The food and drink industry, classified under the SIC code 5812 and NAICS 7225, is huge and restaurants sell quite often.

Consider some of these numbers, provided by the United States Census Bureau: there are over 517,000 eating and drinking establishments in the US. Together they generate some $447B in annual revenues and employ over 9 million people. Average sales per restaurant are some $864,000 with 17 staffers.
Food and drink industry is labor intensive and an average employee contributes about $49,000 to the restaurant’s top line.

Typical valuation multiples for restaurants

Restaurants for sale are most often priced using these valuation multiples:

Asset based valuation multiples are rarely used in valuing a restaurant. The seller’s discretionary cash flow is the most common measure of owners’ benefit when valuing private restaurant businesses.

Restaurant values and recent valuation trends

We study restaurant selling prices very closely. Here are some interesting trends that have emerged recently:

  • In 2008 the restaurant sales have generally been priced based on the seller’s discretionary cash flow.
  • The business price to discretionary cash flow valuation multiples are down about 20% in 2008 compared to a year ago.

What are the business buyers doing? They value a restaurant based on its ability to generate cash flow rather than revenues. And they price in the additional risk right into their valuation multiples. The implications?

  • Profitable restaurants still sell.
  • Those that do sell tend to command lower prices as buyers factor in the earnings risk into their business valuations.

Restaurant Valuation Multiples

There are thousands of restaurant sales each year. See how to estimate your restaurant value using valuation multiples derived from recent business sales.

See Example

Example – effect of the valuation multiples decline on restaurant business values

To put things in perspective, let’s say that a restaurant generates $1,000,000 in annual gross sales and throws off $250,000 in discretionary cash flow.

A likely selling price for this business in 2007 would have been around $500,000. By the end of 2008, the same restaurant would be worth $400,000 – a $100,000 drop in business value in just 12 months!

Valuing a Restaurant based on Market Comps

If there is one measure of financial performance that stands out in the retail industry it is sales per square foot or SPF for short. Retail stores are often benchmarked using SPF – and there are good reasons for doing this:

  • Floor space is expensive. Successful retailers utilize it to maximize their revenues. For each business concept there is a sweet spot square footage that works best.
  • Rent is a major operating expense for retailers. Rents in excess of 10% of gross revenue are a red flag.
  • A retail shop with oversized floor space has to contend with high rental expenses and extra product costs to fill in the space.
  • It takes more labor to service a larger than needed floor space. This erodes the retail business profit margins.

Top valuation multiples for a retail business

Here is the short list:

  1. Business sale price to annual revenues, plus inventory.
  2. Business sale price to discretionary cash flow. Inventory is extra.

Given the importance of maximizing the sales per square foot, you would expect that the value of a retail business depends on its revenues. This is indeed the case – the most commonly used industry valuation multiple for a retail business is the business sale price to annual revenues.

If returns and discounts are significant in your business, consider using the business sale price to net sales valuation multiple.

The close second valuation multiple for private retail stores is business sale price to seller’s discretionary cash flow also known as the seller’s discretionary earnings or SDE for short..

The advantage of using this second multiple to value your retail business is that it measures your business worth directly on the amount of cash flow the business throws off.

Watch out: seller’s discretionary earnings is not net profit

A word of caution: do not confuse discretionary cash flow with business net profits. The discretionary cash flow is what the business puts in its owners’ pockets – which typically is quite different from the taxable business income.

A major mistake in retail business valuation

A major mistake in retail business valuations is applying the cash flow based valuation multiple to business net income or EBITDA. This is likely to result in your business being undervalued significantly!

With all the cost of goods and operating expenses a retail shop owner needs to handle, valuing your business on cash flow makes sense.

Business Market Values across 425 Industries

Other business valuation methods for retailers

If you need to value an owner-operator managed retail business, consider using the Multiple of Discretionary Earnings method.

This well-known method considers both the business cash flow and a number of critical financial and operational performance factors.

If your retail business is an established institution in its market, then you probably have built up considerable business goodwill.

Capitalized Excess Earnings valuation method, described in the Internal Revenue Service Ruling 59-60, is a recognized way to calculate your business goodwill and total business value.

Valuing a Retail Business Three Ways