Valuing a Business_v1

8/12/2019 Valuing a Business_v1

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Valuing a Business_v1 Dr. Harald Fien 2

Valuing a business

Why?

When is it important to value a business?

When buying or selling a business When taking in a new partner (in a partnership)

In both situations it is necessary to place a value on the business

The buyer needs to be certain that he/she is getting value for

money The seller wants a return on the business that he/she built up


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Valuing a business

Selling a business

Owners sell a successful business

To retire. The proceeds of the sale will provide the owner with a pension

To move on to a another enterprise

Some entrepreneurs are serial entrepreneurs. They are successful

in terms of starting business and prefer the challenge of a new

enterprise to continuing to build an existing one


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Valuing a business

Limitations of the balance sheet

The balance sheet does not give a complete valuation because:

what it shows is not necessarily an accurate valuation of assets

it does not show some important intangible assets. The balance sheet

rarely records goodwill

Ultimately value is determined by what buyers are willing to pay for

the business


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Valuing a business

Goodwill

Some firms have little in the way of tangible assets

For instance, the fixed and current assets of a self employed window

cleaning business are negligible

What is the value of the business apart from a ladder and bucket?

Now if you were selling such a business you would expect to becompensated for you work in building up a customer base

This is an example of an intangible asset known as goodwill Goodwill implies that the buyer is paying for the work that has gone

into building up the business and will have access to the existingcustomer base


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Valuing a business

Example - the purchase of The Times

Rupert Murdochs News International bought The Times newspaper

But what exactly did he buy?

The premises in which The Times was produced? But soon afterbuying the Times he moved it from Fleet Street to Wapping

The printing presses? But he scrapped these as part of the printingrevolution of the 1980s

No - the assets that were of greatest value were intangible:contracts with journalists and the brand name

The physical assets were of lesser value than the human andintangible assets that he acquired when he bought the Times


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Valuing a business

Intangible assets

Intangible assets have no physical form and they are invisible

In these ways they differ from tangible assets such buildings,

machines and stock

Brand names, patent, trademarks, copyright and franchises as well

as goodwill are regarded as intangible assets

One firm might purchase another merely to acquire its patents or

franchises


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Valuing a business

Goodwill

Goodwill arises when a business is sold for more than the balance

sheet value of its assets

A purchaser is prepared to pay more than the asset value for the

business as a going concern since it may have an established name

and reputation as well as a favourable location

Goodwill implies that the business is a going concern and that there

is an additional premium on its value over and above the value of

net assets


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Valuing a business

Negative goodwill

If goodwill = value of the business minus value of net assets then it

is possible that goodwill can be negative

This means that the value of the business is lower than the value of

its assets less liabilities


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Valuing a business

Bases for valuation

Average weekly sales for the previous accounting period x anagreed figure

Gross annual fees x an agreed figure. In professions it is likely to begross annual fees multiplied by a given figure

Average annual net profit x an agreed figure. Here value is amultiple of annual profits e.g. value is equal to say 3 to 5 years profit

Return on investment e.g. if a 5% return is expected from a businesswhich earns 20,000 p.a. then the capital value is 20k x 100/5=400k


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Valuing a business

Valuation of different businesses

Asset rich business

freehold retailer/ agricultural smallholding

value on the basis of market value of tangible assets

Business with no real tangible assets

e.g. a consultancy business.

value as a multiple of profits Those with a mix of tangible and intangible assets

small manufacturer/ restaurant

assets at valuation plus goodwill value as a multiple of profits


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Valuing a business

Lessons Learned

Why valuing a business?

What is goodwill?

Explain the valuation of different businesses.

Valuing a Business_v1

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