Increasing the Value of Your Business

Following are extracts from regular 45 minute presentations conducted by Harvey Weyman-Jones to business owners.

The goal of any business owner and potential Seller should be to maximise their value and to be able to sell the business on the best terms, in the shortest time and for the least amount of stress. 

The three most common reasons for sale are retirement, ill health and divorce.  The first can be planned but the latter two can strike quickly, in an untimely manner.  This may force the business to be sold at less than maximum value and for the most amount of stress.

If the business owner understands the key indicators of value then they can manage their business to be ready for sale at any given time.

So, what drives value?  Basically, it's the true earning ability of the business multiplied by an appropriate capitalisation rate (or multiple).

The true earning ability of the business is the adjusted maintainable net profit for the working owner (PEBIT) or after a management/fair owner's wage (EBIT).

PEBIT = Proprietors Earnings before Interest and Tax
EBIT = Earnings before Interest and Tax

The key components of value are:
Capitalisation Rate/Return on Investment  - this can vary from 14 - 66% on EBIT

Multiple - 1 to 7 times EBIT based on the following:
Adjusted net profit - “buy a job/wage” will not attract as good a rate as, say, a net profit of up to $1million, which will also not be as attractive as a net of over $1million to the major corporations.

Goodwill - reliability of performance, length of establishment, brand name, location, staff/management structure, growth of business and industry, patents, days and hours worked.

Plant & Equipment - value and working life/depreciation.

Stock - value and saleability.

Working Capital Requirements - strong cash flow businesses are more attractive than those with high debtors over a long period of time.

Length of Lease - security of tenure and the term of any loan are indelibly linked.  Ideally a lease and option of 10 years plus should be sought.  The greatest security of tenure is to own the freehold.

Examples of types of businesses and risk rates follow (see A Guide To Return On Investment).  The boxes do not have hard and defined edges, there is a grey area in between all, and i.e. some businesses can be deemed to be just above or just below average depending on the variables listed above.