What’s It Worth?
Author: Monte Zwang
Sound financial business planning means taking ongoing assessment steps looking at the business from multiple perspectives including capitalization, expansion, menu concepts, cash flow and even an exit strategy. Whether you are a chef dreaming of your own restaurant, the head of a family business discussing succession, an independent considering retirement or you are thinking about buying or selling, determining the business market value is a necessary process for success.
Adjust Cash Flow
To determine the profitability value a business falls into, it is necessary to determine the Adjusted Cash Flow of that business. The Adjusted Cash Flow is equivalent to its earnings before interest, depreciation, and taxes (EBIDT in accounting terms), plus additions or subtractions for owner's salary, discretionary, single occurrence, or non-cash expenses. Once a thorough analysis of the financial information has been completed, and the Adjusted Cash Flow determined, the category of Market Value is defined.
In general, a privately owned single or small (1-3) multi-unit business will fall into one of the three profitability categories:
- Positive Cash Flow
- Break Even
- Asset Sale
Positive Adjusted Cash Flow
This category will generally represent the highest Market Value of an on-going business. In this situation the business is profitable and established. The buyer is purchasing a combination of the historical cash flow, fixed assets, operational assets (trade name, concept, menu, etc.) and goodwill. The Market Value for businesses in this category is based on a multiplier of the Adjusted Cash Flow, that ranges between two (2) and five (5) times Adjusted Cash Flow. A second value is determined by using a multiplier of Gross Sales (net of sales tax) between 30% and 40%. Business value is generally somewhere within the range of these two numbers. A sophisticated buyer expects that the price they pay would net an annual return on investment between 20% and 50%.
EXAMPLE: Adjusted Cash Flow $ 65,000 x 3.75 = $243,750
Gross Sales 725,000 x 35% = $253,750
This business would have a value of approximately $250,000.
In this category, the business is marginally profitable or losing money. In this type of transaction, the buyer is more interested in fixed assets, location, lease terms, and the cost of converting the existing business to their intended use. In Break Even transactions, Market Value is determined by combining the value of furniture, fixtures, and equipment (including consideration for installation), leasehold rights, tenant improvements, with some consideration for gross revenues. Break Even Market Value is sustainable only if the business is operational, and the owner has the financial ability to continue operating until the sale is closed.
This category is comprised of closed businesses or businesses that are experiencing extreme circumstances. An extreme circumstance may include a seller who does not have the financial means to continue operating. It may also be a secured creditor or landlord whom has had to repossess a business, or it may include a business owner being forced to sell for reasons beyond their control. Any of these situations create a severe disadvantage to the seller, and in turn has a dramatic effect on the Market Value. In these situations, value drops to that of auction value for the fixed assets, plus whatever premium might be negotiated for location, leasehold rights, and the fact that the equipment is in place and operational.
In addition to the cash flow, tangible and non-tangible assets of the business will influence Market Value. These tangible and non-tangible assets may include Furniture, Fixtures and Equipment; Leasehold rights; and Books and Records. Although not quite as important as profitability, these other assets will directly affect Market Value.
Whether you are evaluating a purchase price, planning for succession or positioning your business for sale these other assets should be considered. But is should always be remembered that the bottom line for determining the actual value of your restaurant business is the simple answer: what a willing and able buyer agrees to pay!
About the author
Written by Monte Zwang of Steele Development Corporation, a consulting firm specializing in business development and financial strategies. You can reach Steele Development by calling 206.878.9666 or online at www.Steeledevelopment.com.
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