Delivering on the Promise.

Business Valuation in Exit Planning

August 16, 2012

Michael Trabert, CPA, CVA, CMAP, CEPAKenneth M. Haffey, CPA, CVA

Sean R. Saari, CPA/ABV, CVA, MBA

Delivering on the Promise.

LearningObjectives

After completing the session, participants will be able to...

1. Recognize the methods typically utilized to value a business or ownership interest and understand their basic application

2. Identify normalizing adjustments and assess their impact on value

3. Reconcile values derived from multiple valuation approaches

4. Capitalize on planning opportunities to help clients maximize the value received for their business

Delivering on the Promise.

SeminarOverview

• Valuation Basics

• Case Study / Valuation Analysis

• Valuation Approaches

• Control and Marketability Considerations

• Planning Considerations

Delivering on the Promise.

“There is no such thing as an absolute value in this world. You can only estimate what a thing is worth to you.”

Charles Dudley Warner 1829-1900, American writer

Delivering on the Promise.

ValuationBasics

• Standard of Value• Fair Market Value

• Strategic/Investment Value

• Sales Price = Value?

• Type of Value• Equity value

• Market Value of Invested Capital (MVIC)• Equity Value + Interest-Bearing Debt

• Enterprise value (EV)• MVIC - Cash

Delivering on the Promise.

Valuation Approaches

• Asset Approach

• Income Approach

• Market Approach

• LBO Method

• Rules of Thumb

Practice TipRemember that both fair market value and strategic value can be determined using these approaches depending upon the benefit stream used in the valuation analysis

Delivering on the Promise.

AssetApproach

• Valuation Methodologies• Adjusted net asset method

• Basic Steps• Adjust assets to fair market/strategic value• Adjusted liabilities to fair market/strategic value

• Pros• Provides “floor value” of the company• Relatively simple analysis

• Cons• Typically provides a liquidation value, which is often not

appropriate for healthy businesses• Rarely utilized in transactional valuation

Delivering on the Promise.

IncomeApproach

• Valuation Methodologies• Discounted cash flow method• Capitalization of cash flow method• Capitalization of earnings / Discounted future earnings

• Basic Steps• Determine benefit stream and make normalizing adjustments as

appropriate• Determine discount/capitalization rate• Determine cash flow adjustments• Discount/capitalize cash flows

• Pros• Provides most “company-specific” value• Can appropriately incorporate projected growth of the business

• Cons• Most involved of the valuation analyses• May be disagreements over likelihood of meeting projections

Delivering on the Promise.

IncomeApproach

• Other Considerations• Mid-Period Discounting

• Non-Operating Assets

• Direct to Equity vs. Debt-Free Valuation

• Normalizing Adjustments

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NormalizingAdjustments

• FMV vs. Strategic normalizing adjustments

• Compensation• Family members paid other than FMV• Officers paid other than FMV

• Personal expenses

• Related party transactions at other than FMV

• Non-recurring income or expenses

• Expense trends

Delivering on the Promise.

MarketApproach

• Valuation Methodologies• Guideline transaction method• Guideline public company method

• Basic Steps• Determine benefit stream and make normalizing adjustments as

appropriate• Find comparable transactions/guideline public companies• Calculate valuation multiples and apply to subject company• Make adjustments as necessary to arrive at equity value (if

necessary)

• Pros• Incorporates market conditions and prices paid in recent relative

transactions• Easy to explain and apply

• Cons• Can be misleading if debt not appropriately considered

• EBITDA multiples typically result in an Enterprise Value, not an Equity Value• In certain industries, there may be a lack comparable

transactions or public companies

Delivering on the Promise.

LBOMethod

• Valuation Methodologies• LBO Method

• Basic Steps• Prepare discounted cash flow analysis• Estimate financing and capital structure• Determine implied rate of return at various exit points

• Pros• Allows seller to determine maximum price that the buyer will be

willing to pay based on the amount of debt financing available and rate of return required

• Cons• Simply a derivation of the discounted cash flow method• Not as widely-utilized as basic income and market approaches• Buyer may not have reliable information available regarding the

extent of financing that the seller can obtain

Delivering on the Promise.

Rules ofThumb

• Valuation Methodologies• Rule of Thumb

• Basic Steps• Identify rule of thumb valuation metrics• Apply rule of thumb to the subject company

• Pros• Simple application

• Cons• Can result in misleading values• Often lacks support• Not permitted to be used as sole valuation method by most

valuation standards

Delivering on the Promise.

OtherValuation

Considerations

• Asset Deal vs. Stock Deal

• Asset Deal• Typically preferred by buyers• Allows for step-up in basis of acquired assets, which may allow for higher purchase

price• C Corporation sellers are subject to double taxation

• Stock Deal• Typically preferred by sellers• No step-up in basis in acquired assets for buyer• Single level of seller taxation

Asset Deal Stock Deal

$ 10,000,000 $ 10,000,000 (3,500,000) - 6,500,000 - (975,000) - - (1,500,000)

$ 5,525,000 $ 8,500,000

Deal PriceCorporate Level Tax (35%)Cash Available to DistributeDividend Tax (15%)Capital Gains Tax (15%)

After-Tax Proceeds to Seller

Delivering on the Promise.

PlanningConsiderations

• Button down financial reporting• Get in compliance with GAAP• Consider audited/reviewed F/S

• Standardize processes• Make it easy for someone new to come in and run the business• Reduce reliance on key employees

• Reverse engineer potential buyer preferences• Think about what characteristics would be desirable to potential

acquirers in the industry and work to implement them

• Implement confidentiality agreements with employees

• Identify and reverse negative income/expense trends

• Diversify the customer base

• Right-size working capital

Delivering on the Promise.

LearningObjectives

After completing the session, participants will be able to...

1. Recognize the methods typically utilized to value a business or ownership interest and understand their basic application

2. Identify normalizing adjustments and assess their impact on value

3. Reconcile values derived from multiple valuation approaches

4. Capitalize on planning opportunities to help clients maximize the value received for their business

Delivering on the Promise.

“Things only have the value that we give them.”Moliere 1622-1673, French Actor and Playwright

Questions?