Business Valuation
Case Studies & Hot Topics
Steve Mize – GCF Valuation
Neal Patel – Reliant Business Valuation
March 13, 2014
Steve Mize, ASA – GCF Valuation
• Steve Mize, ASA is managing partner of GCF Valuation – a family owned and
operated company specializing in business valuations to SBA lenders since
1997.
• Steve’s experience includes valuation engagements for mergers/acquisitions,
estate and gift tax purposes, feasibility analysis and consulting related to
fairness opinions and value improvement.
• Steve is a member of the American Society of Appraisers (ASA), the Institute
of Business Appraisers (IBA) and the National Association of Government
Guaranteed Lenders (NAGGL) and regularly conducts training through NAGGL
at various national and regional conferences for SBA lenders.
• GCF Valuation is the leading provider of 3rd party business valuations to SBA
lenders, performing over hundreds of business valuations to the nation’s top
SBA lenders.
Neal Patel, CBA, CVA – Reliant Business Valuation
•
Neal Patel, CBA, CVA is the Principal of Reliant Business Valuation, a business
valuation and equipment appraisal firm specialized in SBA related valuations
nationwide.
•
He is a Certified Business Appraiser through the Institute of Business Appraisers
(IBA) and a Certified Valuation Analyst through the National Association of
Certified Valuators and Analysts (NACVA).
•
Neal has extensive experience with small business valuations and financing, and
firsthand ownership experience of multiple small businesses. This comprehensive
experience helps him understand the intricacies of the businesses he appraises,
while enabling him to add unique value to a nationwide roster of clients.
•
Reliant Business Valuation is a leading business valuation and equipment appraisal
firm for SBA lenders and currently works with over 100 of the nation’s top SBA
lenders.
Hot Topics in Business Valuation
• Changes in SOP regarding business valuation
• What if the appraised value is lower than the purchase price?
• Financial Statements vs Tax Returns…what to use?
Changes in SOP – Business Valuation
• SOP 50 10 5(f) – Effective January 1, 2014
• Removal of CPA as a “qualified source”;
• Removal of the BV requirement for loans being used for
refinance purposes (even if refinancing a seller note or private
note);
• Real estate appraisers also have to fall under the BV
“qualified source” to appraise special use properties.
Valuation Requirements for Refinancing
• NEW: A business valuation is not required when
refinancing debt originally used to finance a change of
ownership.
• However, “prudent lender policy” is still in effect, and
lenders may still choose to request a 3rd party business
valuation on larger loans.
• Seller and Private notes will always be a concern.
What if the Appraised Value
is Lower than Purchase Price?
• A loan can still be processed under delegated authority
(PLP)
• SOP states:
– Any amount in excess of the business valuation may
not be financed with the SBA guaranteed loan
• Reasons why a buyer would overpay for a business:
– Buyout of an inefficient or disgruntled partner
– Strategic transaction
Is the Business Appraiser
Required to use Tax Returns?
• The SOP uses the words “IRS Transcripts” in their direction with
regards to business valuations.
• However, the appraiser can choose to use whatever financials best
represent the company's financial performance.
• The significant point here really is to be able to determine whether
the financials used in the business valuation accurately depict the
operations/performance of the business for the periods in
question.
• Example – cash tax returns vs. accrual internal financials:
– A reconciliation report between the two should be requested and
should reflect marginal differences.
The Valuation Process
• Cash Flow for Lenders vs. Valuations
• Add-Backs & Normalizing Adjustments
• Finding the SDE (Case study: Dental Practice)
• Reasonable Valuation Multiples
• Red Flags
• Frequently Asked Questions
Cash Flow for Lending
• Specific to the deal terms and the borrower’s
requirements
• Typically uses tax returns
• Cash flow in underwriting often stated as:
– Adjusted EBITDA
– UCA (direct or indirect)
– Cash flow available to service debt
Cash Flow for Business Valuations
• Based on a hypothetical transaction
• Will use most accurate financial statements available
• Cash flow in valuations often stated as:
– Normalized EBITDA
– Seller’s Discretionary Earnings
– Net cash flow
Cash Flow – Lending
Cash Flow – Valuations
Treatment of Add-backs
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Add-back must be fully explained and documented;
Can be discretionary in nature (an owner benefit);
Can be non-recurring or “excess” for that period;
Can be non-operating or not related to business
being valued;
• Should not be strategic;
• Should not be based on “industry averages”.
Dental Practice Case Study:
Calculate the EBITDA
Amortization $50,000
2014 SESBLC
15
Example – Calculate the EBITDA
EBITDA Calculation
Net income (loss) from financials
$ 166,570
Add: Interest
Add: Taxes
Add: Depreciation
Add: Amortization
EBITDA (unadjusted)
$ 63,773
$
$ 14,790
$ 50,000
$ 295,133
Amortization $50,000
2014 SESBLC
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Example – Calculate the SDE
EBITDA
+ Owner's Compensation
+ Normalizing Adjustments*
= Normalized SDE
*Normalizing Adjustments
Amortization $50,000
Non-Recurring Expenses
Non-Business Expenses
Owner's Perks
Rent Adjustment
2014 SESBLC
17
Example – Calculate the SDE
Spouse’s Salary - $25,000
Amortization $50,00
2014 SESBLC
18
Example – Calculate the SDE
Appraiser's Cash Flow for Liquor Store
EBITDA
$ 295,133
Add: Owner's Compensation
Add: Non-Business / Owner's "Perks"
Less: Non-Recurring Gain on Sale (Equipment)
Add: Non-working Spouse's Salary (W2 proof)
Seller's Discretionary Earnings (SDE)
$ 185,150
$
7,024
$ (6,842)
$ 25,000
$ 505,465
SDE
Spouse’s Salary - $25,000
Sales
Amortization $50,00
Margin
$ 505,465 / $ 1,328,318 = 38.1%
2014 SESBLC
19
Which Multiple is Reasonable?
Normalized SDE (rounded)
Chosen Price / Earnings Multiple x
Estimated Value (rule of thumb)
500,000
1.0
500,000
1 year return
100% ROI
Normalized SDE (rounded)
Chosen Price / Earnings Multiple x
Estimated Value (rule of thumb)
500,000
2.0
1,000,000
2 year return
50% ROI
Normalized SDE (rounded)
Chosen Price / Earnings Multiple x
Estimated Value (rule of thumb)
500,000
3.0
1,500,000
3 year return
33% ROI
2014 SESBLC
20
Factors that Influence the Multiple
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•
•
•
•
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•
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Owner’s involvement
Financial Strength
Transferability of Revenues
Size of Potential Buyer Pool
Customer Concentration
Size of Company / Revenues
Growth Prospects
Marketability
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Brand recognition
Industry and company risk
Management depth
Employee retention
Ease of operations
Quality of clients
Product mix
Which Multiple is Reasonable?
Normalized SDE (rounded)
Chosen Price / Earnings Multiple x
Estimated Value (rule of thumb)
500,000
1.0
500,000
1 year return
100% ROI
Normalized SDE (rounded)
Chosen Price / Earnings Multiple x
Estimated Value (rule of thumb)
500,000
2.0
1,000,000
2 year return
50% ROI
Normalized SDE (rounded)
Chosen Price / Earnings Multiple x
Estimated Value (rule of thumb)
500,000
3.0
1,500,000
3 year return
33% ROI
Recognizing Red Flags and
Other Considerations
• Is the deal price in excess of 4x adjusted Seller’s
Discretionary Earnings (SDE) or 5x adjusted EBITDA?
• Is the price of the business based solely upon one year of
financial statements (typically the most profitable year)?
• What are quality of the financial statements? (Tax
Returns, Compiled/Audited, Internal)
Recognizing Red Flags and
Other Considerations
• Are there any significant capital expenditure requirements
that will impact cash flow? (Income approach is only method
that factors in capital expenditures!)
• If valuing a division or one of several locations, did you look to
see if the seller “loaded up” other divisions to make the
division to be sold more profitable?
• If sold above high end of the range (SDE and EBITDA), look for
high growth, proprietary product, management in place, and
within an industry that may attract “synergistic” or strategic
buyers.
Frequently Asked Questions
Q: The SOP states that I need a valuation if the
loan amount (minus the appraised value of the
equipment and real estate) is greater than
$250,000….what about working capital (cash,
A/R, inventory, etc.)?
A: Unfortunately, if taking the literal
interpretation of the SOP, only equipment and
real estate are allowed to be considered.
Frequently Asked Questions
Q: How do you calculate intangible assets?
A: The value of the business as per the business
valuation minus the sum of the working capital and
the book value of fixed assets.
"intangible assets = business value – (working capital + fixed assets)“
If a USPAP compliant equipment appraisal is
available, the appraised equipment can be used in
lieu of the net book value of equipment.
Frequently Asked Questions
Q: The seller's files a Schedule C and does not
have balance sheets. How will you treat
tangible vs intangible assets?
A: For purposes of calculating intangible assets,
if an internal balance sheet cannot be produced,
the appraiser must assign the entire value of the
business to intangible assets.
Frequently Asked Questions
Q: The buyer is purchasing three different
businesses (for example restaurants), all owned
by separate companies. Can you combine them
into one report?
A: Yes, as long as there is one loan and the
businesses are similar in nature (or the same
franchise). If there are three separate loans,
you need three separate valuations.
Contact Information
Neal Patel, CBA, CVA
Reliant Business Valuation
908.248.4658
neal@reliantvalue.com
www.reliantvalue.com
Steve Mize, ASA
GCF Valuation
813.658.3501
smize@gvalue.com
www.gvalue.com