Archive for November, 2011

Valuation of specialized assets is among the hardest tasks a business appraiser may undertake. Just about all businesses have such assets on hand. Imagine a technology company with specialized lab space and equipment. Or a manufacturing firm with its own set of machinery and factory floor layout. In each case the managers have adapted the business assets to their highest and best use for the company.

Yet the question of valuing such special assets plagues many business valuations when the intended use of the assets going forward is about to change. What happens to the value of a real property currently occupied by a restaurant if the new owners decide to put in a retail operation in its place?

Clearly, there are going to be some conversion costs associated with the makeover. Business buyers may figure this into their acquisition proposal to make sure the net value is positive. On the other hand, the seller may feel the offer falls below expectation.

The key point to remember is that the value of such business assets depends on their intended use and must be compared to alternative assets available. If the costs of converting the subject property are higher than suitable alternatives, a rational business investor would elect to go with the “plan B”.

Assets that cannot be substituted

Notice that this thinking is in sharp contrast to the situation involving unique assets available in the arts market. If a work of art comes up for sale chances are there is no way you can get an alternative. If the buyer really wants the painting, it is down to his ability to negotiate with the seller.

Alternatives to business assets dictate their value

In the business world alternatives always exist. The next best real property or business equipment is likely to be only marginally different from the target asset. In other words, you as the business appraiser can always make the assumption that one business asset can be substituted for another. As a result, you can determine the value of a business asset on the fair market value basis.

Tools for Business Valuation

Do you need to determine the value of an auto dealership? Here are some industry statistics to consider.

New and used car dealerships are a significant part of the automotive retail and services industry. Classified under the SIC code 5511 and NAICS 441110, there are some 43,600 such establishments in the US alone. The industry sector generates a respectable $343.1B in annual sales employing over 953,000 people. An average auto dealership is a privately owned firm with about $13M in annual sales and a staff of 33.

Auto dealership business valuation by market comparison

Auto dealerships are ubiquitous, many successful companies becoming institutions in their markets. There is a growing trend toward consolidation with smaller independent dealers being bought out by larger companies. As a result, successful privately owned dealerships are frequent acquisition targets.

This is good news if you decide to value an existing auto dealership using the market approach, i.e. by comparison to recent sales of similar companies – there are plenty of business sales to compare against.

The usual tools to value an auto dealership under the market approach are valuation multiples.

The multiples are ratios that let you calculate what is known as the enterprise value of a company based on the selling prices and financial performance of similar firms.

The valuation multiples commonly used for valuation of auto dealerships are these:

The product inventory may be factored out of the multiplication and added on top to come up with the enterprise value of the business.

Example: Valuation of an auto dealership business

To demonstrate the concept, let’s pick a typical new and pre-owned car dealer with the following financials:

  • Revenue: $13,000,000
  • EBITDA: $1,000,000
  • Inventory: $2,250,000

Next, we choose a set of reasonable valuation multiples to calculate the business value estimates:

Multiple Multiple value Business value
EV to net sales 0.13 $3,940,000
EV to EBITDA 2.45 $4,700,000
Average Business Value $4,320,000

Another way to report these results is as a range of values, from low to high, i.e. $3,940,000 – $4,700,000. The expected business value then should fall somewhere in between.

Business Valuation Based on Multiples