Valuing a small business for sale
Thursday, February 7th, 2008I had some correspondence this week from a chap who owns a debt collection agency and is looking to buy small businesses in order to expand.
Having found something he liked up in Scotland, he asked for advice in valuing the business as he had no idea whether the price being asked was too much, or a good deal.
The information he provided on the business is as follows:
Turnover is: £70000
Outgoings from this: £40000
Net Profit: £30000
He understood the business and he said that it had a good client list and sales are “mostly repeat business”.
The point I made to this man is that most people think that valuing a business is a simple task and that a value can be arrived at simply by adding a couple of numbers together.
Unfortunately it is not that simple.
In this case, the most important point to explore was defining what the ‘outgoings’ are. Here, the prospective buyer got it completely wrong in his assumptions. On further inspection it transpired that outgoings did not include the cost of the owner’s time.
So, let’s assume this was a full-time job for the owner and he drew a salary of £30k. Seems reasonable. What happens to the figures now? Suddenly, the equation becomes:
Turnover is: £70000
Outgoings from this: £70000
Net Profit: £0
Does not seem such a good deal after all, does it? The question must be asked why the prospective buyer would want to risk £40K (that was what the vendor wanted) in order to land a job paying an average salary. Let’s say that the buyer puts his own manager in at 30K. How is he to make this acquisition pay? How long before it provides a return on his investment?
Our advice in this case was to offer the vendor a much-reduced amount up-front, followed by a number of deferred payments over time depending on revenues achieved.
We will talk more about the very useful tactic of deferring payments later.
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