If you are thinking of selling your business or plan to buy one, the central issue is how to determine the business sale price.
Setting the selling price of a business right is very important to a successful business acquisition. More deals go wrong because business buyers and sellers fail to agree on how to price the business.
In the current economic climate pricing a business for sale is more challenging than ever. You need to complete two important tasks to get it right:
Business valuation is the first essential step toward figuring out how much your business can sell for. Since the intent is a business sale, market-based business valuation methods should be your first choice.
Business valuation using private business sales comps
The most compelling way to determine the value of a business for sale is to compare the selling prices of similar private businesses that have sold recently. You can estimate your business market value using the valuation multiples derived from such transactions.
The typical valuation multiples help you estimate your potential business selling price based on the company’s gross revenues, net sales, net profit, EBITDA, cash flow or asset base. Using the business sale statistics, you can calculate your likely business sale price as a single number or a range of values.
Income business valuation – customized to your specific situation
Such market based business value analysis is an excellent way to determine the business fair market value. However, each business sale transaction is unique. The objectives and risk perceptions of the business buyer or owner may differ considerably.
That’s where the income-based business appraisal comes in. This approach to valuing a business for sale lets you account for your specific goals. To use the formal business appraisal terms, income-based business valuation may adopt the investment value standard. The result may be a business value that is either below or above the fair market value.
Strategic buyers can pay a premium price for the right business
The typical situation involves a synergistic business buyer. Such a buyer may be looking to realize some unique benefits through business acquisition. Often, the analysis of business value will show the number that is considerably higher than the fair market value estimate obtained from business sales comps.
The result of an income based business valuation depends on the forecast of business earnings and its risk. A strategic buyer may have plans for your business that indicate considerable earnings growth upside over the long term. In addition, the buyer may have a well-planned ownership transition strategy that minimizes the business risk. The result is higher business value.
Financial business buyers look for low cost income streams
At the other extreme are financial buyers who are interested in acquiring the business income stream at the lowest price possible. Expect conservative business valuations and low business purchase price offers from this group.
Find the right buyer to maximize your business selling price
Savvy business owners can make the search for synergistic business buyers an important part of their strategy to maximize the business sale price.
Valuing a business based on its assets
You should also consider using asset based business valuation methods. The key advantages offered by this approach is calculation of business goodwill and purchase price allocation among the business assets in a tax advantaged way.
Putting the deal together – business sale price and terms
Once you know what the business is worth, it is time to structure the terms of the business acquisition that make sense to both the buyer and the seller.
In addition to the business selling price, your deal structure needs to account for these important elements:
- The amount of buyer down payment.
- Terms of seller and lender financing, including the principal amounts, maturity and interest charged.
- Any amount of the business sale price to be held back in an earnout.
- Payback period required by the buyer to recover the down payment.
- Acceptable living wage for the new business owners.
- Amount of capital expenses required to run the business after the sale closes.
- Working capital injection if the business sale is structured as an asset transaction.
- Business acquisition expenses such as professional fees, closing costs, licenses and permits, and due diligence expenses.
Your business value and sale price may differ!
There could be a considerable difference between the appraised value of the business and its actual selling price. The reason is that the deal terms are unique to each transaction. As the terms vary, so does the amount of cash flow required to make your business acquisition work financially.
It is not unusual for a business to sell at a considerable discount if the seller insists on an all-cash transaction. Offering seller financing to a qualified buyer tends to increase the selling price while reducing the capital gains taxes for the seller.