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Ask the Expert" Questions and Answers Page

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1. What's the best way to determine the value of a small restaurant?

Answer: There are many different ways to determine the fair market value of a restaurant, just as there is with most small businesses. I don’t advocate using a multiple or percentage of sales, or any other approach not specifically related to income. Rather, I strongly believe in using an income-based approach such as capitalizing the net operating income. This way the valuation is based on the business’s ability to make money for its owner…not just on the business’s ability to get fannies into the seats. What good is $1,000,000 in sales if you lose $100,000 on the bottom-line?

The key to any income-based valuation is to determine the two most significant variables: the available cash flow for a new owner and the capitalization rate (also referred to as the discount rate) which can also be expressed as a multiplier. An experienced business appraiser can accurately estimate these factors and apply them in determining an overall value for the business. Many good business appraisers are members of The Institute of Business Appraisers, so if you want to hire a professional to help you, be sure they are a member of this excellent organization.

If you want more information for a do-it-yourself approach, there are several resources offered on this Web site to help you. Everything from free articles, to books, to easy-to-use software. For a very good coverage of all of the different methods of valuing a restaurant business, including dozens of “rules of thumb” evolved from actual transactions, I highly recommend The Business Reference Guide. This guide has about 750 pages devoted to the process of buying, selling, or valuing a small business. For example, INC. Magazine has described it as “a gold mine of information…”

If you would like to determine a business valuation yourself using our easy-to-use, private and very inexpensive software package, please learn more about our BizPricer™ Business Valuation Software.

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


2. Is it possible to get financing to buy a gas station?

Answer: It’s probably not possible to get a loan to finance the entire purchase price of a gas station (or any other small business). Usually the gas station seller will finance part of the transaction, the gasoline company franchise (e.g. Texaco, Mobil, etc.) may finance another part, a bank may finance a portion of the hard assets (the equipment, inventory, etc. and of course the real estate if that is part of the deal), and you will be expected to come up with a significant part of the purchase price.

Don’t be discouraged if this sounds complicated. It’s done probably every day somewhere around the country. You need to get as much detailed knowledge as you can about this procedure and then approach the appropriate parties to help you put the deal together (a good business broker with specific experience in selling gas stations can help you immensely with this process). We list many excellent brokerage firms from around the country right here on BusinessBookPress.com and some professional funding resources you may want to check out.

Before you talk with anyone, you should get as much information as possible. I highly recommend you consider reading The Business Reference Guide or Strategies for Successfully Buying or Selling a Business. The Reference Guide has an entire chapter on financing the purchase of a business and extensive discussions of buying and valuing gas stations in particular in other sections of the book. You’ll need this information in this book for every step of your business purchase process. The Strategies... book is more basic and gives you the fundamentals you need to understand the overall process. Thanks for the question and good luck with your business purchase.

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


3. I'm interested in buying an engineering services company. I have come into about $500,000 and I wonder if you can tell me how to get started?

Answer: Your question is quite vague but let me see if I can help you. I’ll assume you know what type of engineering company your looking for and that you’re qualified (managerially and technically) to run it. There is a very good article you should read that addresses these questions in particular.

First, you should assess your financial capacity to determine what price ballpark you should be looking in. You will most likely want to finance the purchase through a seller but you’ll still need a fairly substantial down payment (probably 30%-50% of the purchase price) plus you’ll need operating capital immediately after the purchase (at least 5-10% of the purchase price). There are also those pesky professional fees to pay (attorney, accountant, and business valuation appraiser).

You say you have access to $500,000 cash. That's certainly a good start! I’d say that you may want to restrict your search to those engineering firms being offered for sale for $1.5 million or less. You can really only afford to pay $1 million but most companies are overpriced by at least 50% if they haven’t been properly appraised, so go ahead and consider companies where the asking price is 50% greater than you think you can afford. The actual selling price will ultimately be determined through negotiations. You may want to consider using BizPricer™ Business Valuation Software when the time comes to determine a fiar market valur of the business you find.

So where to look? You can call one or more of your local business brokerage firms or call the International Business Brokerage Association (888-686-IBBA) for a referral. You can also search online. I highly recommend the BusinessBroker.net as an excellent place to begin your search.

But whatever you do, arm yourself with as much information as you can before you get too involved in the process. It’s a real jungle out there and you need to be well prepared. I highly recommend that you read the Business Reference Guide. This is the most valuable information resource on the market today regarding buying, selling, or brokering the sale of a business. Thanks for the question and good luck!

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


4. I'd like to look into buying an auto repair shop. What are some of the things I need to consider?

Answer: Here are a few things to look for when considering buying an auto repair shop:

a. Is the business equipment leased or owned? (this will affect the business value)
b. Is the real estate leased or owned. What are the conditions of the lease? Will the business sale include the real estate? Is the current location important to the success of the business?
c. Are any special state or local licenses required? For example; hazardous material handling permits, safety inspection certification, etc.
d. Are there any unresolved environmental issues? (the current owner could have been dumping waste oil down the drain, for example)
e. How long have the employee mechanics been with the business? Are they likely to stay after the sale?
f. Does the current owner work in the business? What are his/her responsibilities? Does he/she receive a fair wage from the business?

There are many other considerations in purchasing a business of this type which you should be aware of that are too numerous to discuss here. There are many information resources offered on this site which you may want to consider using to give you the information you need. For example, you may want to start out with Strategies for Successfully Buying or Selling a Business to get the fundamental knowledge you will need. Another excellent resource is The Business Reference Guide. This 750 page guide is a goldmine of information relating to buying, selling, or valuing a business. Just about every conceivable topic is covered in enough detail for easy understanding and it also contains the largest collection of valuation “rules of thumb” published anywhere. A free article I can recommend for you to read is titled the The Twelve Laws of the Business Buying and Selling Jungle. Check it out and thanks for your question!

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


5. I'm thinking of selling my travel agency to another, larger agency. Is now a good time to sell?

Answer: There is good news for you if you’re interested in selling your business now! It’s a great time to be selling a profitable small to mid-sized business, especially as an acquisition for a larger company or to an entrepreneur looking to get started on their own way to personal wealth. Interest rates are low, the economy is improving and interest in small business ownership ia at an all time high. Presumably the other travel agency is interested in your business for strategic reasons. Typically, these type of buyers pay more than purely financially-motivated individual buyers so I would recommend you see if they are truly serious. Also, financing is usually not as big an issue when selling to another, larger company although sellers are frequently asked to take back some stock in the acquiring company as part of the purchase price.

There are several ways you can approach this situation on your own if you’re not yet ready to involve an expensive attorney/CPA. You can start by getting as much information about the business buying/selling process as you can deal with. If you want to handle the preliminary basics yourself, including getting an idea about what your business might be worth and drafting a sale prospectus, I recommend that you read, Preparing Your Business for Sale.

If you want to develop your own detailed valuation and “crunch the numbers” somewhat, I recommend that you look into the BizPricer™ Business Valuation Software which is used by many business owners (as well as potential buyers) to get a fast, accurate estimate of the business's fair market value.

For some rules of thumb about travel agency valuations so you can determine what ballpark you’re in and also get a wealth of other information about the process of buying/selling a business I highly recommend The Business Reference Guide.

Lastly, there is a very good free article that you mat want to read: Selling Your Business? Follow These Ten Commandments to Avoid Wrecking the Deal. Thanks for your question and good luck with the sale of your business!

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


6. I'm thinking about becoming a business broker in the state of Texas. What are the commission rates and do you have any advice for me?

Answer: According to the Business Reference Guide there aren’t any special licensing requirements to do business as a business broker in the state of Texas. This Guide is a superb source of information about everything and anything related to buying, selling and valuing a business and the field of business brokerage. The range of business broker fees is 5-12% (depending on what the market will bear and the complexity/size of the potential transaction). This is based on an extensive survey of business brokers throughout the country and reported on annually in The Business Reference Guide. I would say that a “typical” commission for a small business (under a $1 million in sales) is somewhere around 8-10%.

If you’re going to work with clients in helping to sell their businesses I strongly recommend that, as a minimum, you get the “bible” (The Business Reference Guide) of the business brokerage field to refer to as you progress through this process. It’s the best collection of information (and leads to other resources) you can find. Please take a few minutes to learn more about this valuable resource. Tom West, the founder of the International Business Brokers Association, has also written a superb guide for setting up your own business brokerage practice, The Complete Guide to Business Brokerage.

You’ve certainly picked a lucrative field to consider getting into. There are about 3,000 business brokers in the United States right now and more good ones are definitely needed. Many business owners belong to the “baby boomer” era and are now thinking about retirement. Millions of businesses will be coming onto the market in the next several years and the business brokerage field should continue to be attractive for at least the next fifteen years.

In a recent survey of business brokers, 83% of sole practitioners reported commissions ranging between up to $300,000 and another 12% reported even greater income amounts up through $600,000! Here's more information about the exciting field of business brokerage.

I’ve assembled a collection of information, guides, and software tools for those considering entering the field of business brokerage into a special-valued kit. All materials are of the highest quality and will strongly contribute to your success in entering this field. Please take a look at our Business Broker Professional Starter Kits.

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


7. I've heard a lot about valuation "rules of thumb." Can they be used to value a business accurately?

Answer: You have asked about one of my pet peeves! I don't think it makes good sense to base a buying or selling decision on the fair market value of a going-concern business based on anything other than discretionary (available) cash flow and a multiple (discount rate) related to risk if the buyer is financially motivated. This is the approach used in BizPricer™ Business Valuation Software. However, business valuation rules of thumb are valuable for getting you into the valuation "ballpark" quickly and cheaply.

Let’s consider the reason most buyers seek to purchase a business: to make money! Valuing a business based on an estimate of value for tangible assets plus some factor applied against gross sales, just will not get you to a good determination of what a business might really be worth (or not worth) well enough to make a business buying or selling decision.

Let’s say this particular business you are considering has a net tangible asset value of $100,000 and gross sales of $500,000 and the business loses $50,000 per year. Are you willing to pay $200,000 for the opportunity to lose $50,000 per year? Probably not. If you really want to get in that type of business, why not just buy the assets needed and start new. Of course there may be some good reasons for buying an unprofitable business (e.g. acquiring the customer base, getting a good business location, getting rid of a competitor, etc.). However, the basis for the purchase price will still have to be based on expectations of profit as compared to alternative courses of action. For the most part, most buyers will want and need to consider the overall ability of the business to generate money for them. It’s on this basis that a business should be valued.

I carry several books and software on this site relating to valuing a business. I recommend that you review one or more of them to give yourself a good basic understanding of the process. In my book, Preparing Your Business for Sale, I provide a solid overview of the valuation process and discuss in detail those items that can affect the overall value of a business.

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


8. I just purchased the BizPricer Business Valuation software and I have a few questions. I have a 3-year old software and services company and am in discussion for a possible merger/acquisition. In the last 3 years, we developed and retained fairly significant intellectual property (IP). I could not find any section in your spreadsheet to calculate the value of our IP. This is one of our key assets and the main reason for the acquisition discussion. How and where do you calculate the value of our IP? What about the value of existing customers? How do you calculate its potential revenue or earning this year?

Answer: The fundamental value of a business is its ability to generate proven income (profit/available cash flow) for its owner and to continue that income for a reasonable period of time. Therefore most valuations are based on proven actual results and an estimate of the likelihood that those results will continue.

Some businesses require a large amount of investment in capital equipment or in your case, intellectual property (IP). But where is the proof that this investment will pay off with a reasonable return on the value invested? If I am considering buying a company with little or no profit history how am I to know whether the recent development in IP or investment in capital equipment will be worth anything? Who can predict the future? I would ask if this IP is so promising why is the company not already reaping the benefits to its bottom line? To owners of this type of company I say, stay with it for three or so more years to bring that profit to fruition and therefore have a provable income stream and therefore a reliable valuation.

However, if a business owner still wishes or needs to move ahead with a valuation for sale or related purposes, then the valuation will be similar to the process of assigning a value to a new franchise entity or start-up enterprise. The value will be calculated using a pro-forma approach where estimated sales, expenses and earnings are used instead of actual results. The seller's/appraiser's task will then be to convince the interested outside party (e.g. bank, buyer, investor, etc.) that their projections are reasonable, attainable and sustainable.

So, use BizPricer in the exact same way as you would for a normal valuation except enter your estimated financial performance for the next three fiscal years. When BizPricer calculates the appropriate multiplier (capitalization rate) be sure to use input scores that reflect the much riskier approach of trying to predict financial performance rather the much safer process of considering proven results.

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.


9. I'm curious about fee structures in the business brokerage field. My background is in the institutional brokerage business and investment banking where fees are 7% of the sale price.  Is this similar in business brokerage or do fees change depending on size of deal, price, etc? 

Answer: Business brokerage fees are truly negotiable and greatly depend on the size of the deal, geographic location (generally urban vs. suburban), prestige/size of the brokerage firm and what is included in the transaction price.

One of the biggest items of contention in the setting and collection of commissions is what constitutes the selling price. This may seem straightforward but it is far from it. For example, in many sale transactions the accounts receivable, inventory and pre-paid expenses are necessarily adjusted for current value at the time of sale. The broker usually wants these items included in the sale price basis upon which the commission is based. Of course, the seller does not. Unless this has been clearly spelled out in the listing contract a vigorous argument may ensue. In most cases a business broker will expect that the commission will be paid on the total net value of the deal to include all assets (i.e. the value of everything conveyed to the buyer).

With that said, the typical commission for small deals ($500,000 and below) is 10% on the total net value of the deal. For larger deals a sliding scale is often used such as 6% of the first million dollars, 5% of the second million and so on down to 1%. However, keep in mind that this is highly negotiable and the stronger a business is (the more likely it will be sold) usually results in lower negotiated commission rates.

Answered by: Russell L. Brown, MBA/Business Appraiser
President, RDS Associates, Inc.

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