WVMike once bubbled...
I saw a formula one time where you could determine the value or selling price for a business based on gross income.
Does anyone know how to figure this?
Or other ways to figure how much to pay for a business?
thanks
mike
Nowadays there are too many variables to use a simple % of gross rule of thumb in evaluating a business. If you are considering purchasing an existing business look at the following.
1: Why do you think the current owner is selling? Not the reasons he gives but the reasons you suspect to be true. Your suspicions might agree with his asserions.
2: What is the true bottom line (net $) after all expenses? Some businesses involve significant amounts of cash and this cash finds it's way into the owner's pocket without the taxman finding out. The downside of that is that the taxman has ways of evaluating the reasonable level of "shrinkage" and it also has a detrimental affect on the bottom line at the end of the year.
3: Is there real estate involved, or a lease? If it involves buying real estate, how much of the price is for the real estate, and is it proportional and appropriate for your tax purposes? If it involves a lease, is it a good lease and does it offer you protection against inflation over the next few years?
4: Are you buying the shares of a corp or the assets? Affects tax situation.
5: What are the future prospects of the business in the current location? Relates to current owner's reason for selling.
6: Is there inventory involved? Is it current or dead stock? What percentage cost on invoice value?
7: Is there a customer base involved? Is the current owner going to simply turn around and reopen nearby and retain that customer base? Are there enough loyal customers to maintain the business volume when you take over or has the business dried up?
8: Is there special licensing involved, or are there any pending environmental or regulatory issues? Sometimes pending safety legislation frightens entrepreneurs out of the business.
9: Is there special knowledge required like servicing and warranty support? What are the new owner's potential liabilities in this regard for product currently in the local marketplace?
10: Is there financing involved? Will the vendor offer any kind of terms?
11: Is there staff involved and are they productive? Will the new owner have to be the bad guy and fire the deadwood and suffer the "wrongful dismissal" issues afterwards?
12: Are there leases or outstanding loans and service agreements on equipment?
That's just part of it. The gross sales are really irrelevent. The important thing is to determine if the margins left after all the operating costs (premises, advertising, insurance, staffing, finance charges, etc) are enough to warrant the owner's investment of time, money and responsibility.
Gross sales of $100,000 per year with a 100% markup and no staffing, financing, or premises expenses will yield a bottom line of $50,000.
Gross sales of $1,000,000 per year with a 10% markup and $875,000 per year in operating costs will net you .... the math's too much for this beleaguered brain, but I suspect you'd be happier with the $100,000 deal. 8)
Go slowly, and go to a good accountant. Have them look at the financial statements (audited if possible). Be very objective.
Sorry for the long-winded stuff, but you asked. I'm no expert, but that's how I'd start in looking at a business.
Good luck
JohnF
