One of the major problems encountered when buying a small business is determining its worth. Somewhere along the way in negotiations, a value must be established. Unless the valuation is agreed to by both buyer and seller, further discussion is pointless.
There are two basic and traditional methods of evaluating a business: the appraised value of the assets at the time of negotiation, and future expectations of profits and return on investment. Appraisal of assets is the more commonly used method. It determines the present value of the business based solely on the value of its current assets. (It is not unheard of for a business to be appraised at zero or nearly zero using this method). This method is probably used most often because it is the simplest method. However, there are several caveats to keep in mind in applying this method.
Often the inventory value carried on the books is the price paid, rather than the current value. If inventory is loaded with items no longer in demand, or with deflated prices, then the total inventory value would be grossly overstated. Buyers should know very precisely what is in inventory, its current real value …and that it currently exists.
Another dangerous area is accounts receivable. Make sure there are not many overdue accounts which may not be collectible. Evaluating a business based on future expectations of profits and return on investment is better suited to the serious buyer. Such projections are not easy, but may well be preparation of projected profit and loss statements, since the seller's estimates are often likely to be overstated. This is where an accountant with extensive small business experience is an invaluable resource.
Some inexperienced would-be buyers should take a personality inventory before undertaking the operation of a small business. SCORE counselors have spoken to many owners who may not be suited to the demands of a business. If potential buyers lack experience or knowledge of business principals, they should consider calling SCORE at (619) 557-7272, where many counselors have experience in evaluating businesses and establishing a price for both buyer and seller. They will be glad to visit both buyers and sellers in person to assist in the process.
SCORE is a volunteer organization sponsored by the U.S. Small Business Administration. Its sole purpose is to help strengthen America's small business community through free counseling and low cost workshop programs. To learn more about these services, visit www.score-sandiego.org for "free business stuff," workshop pre-registration and women's programs or call (619) 557-7272 weekdays. SCORE offers free business counseling Mondays at 9:30 a.m. at the Carlsbad Chamber of Commerce.
There are two basic and traditional methods of evaluating a business: the appraised value of the assets at the time of negotiation, and future expectations of profits and return on investment. Appraisal of assets is the more commonly used method. It determines the present value of the business based solely on the value of its current assets. (It is not unheard of for a business to be appraised at zero or nearly zero using this method). This method is probably used most often because it is the simplest method. However, there are several caveats to keep in mind in applying this method.
Often the inventory value carried on the books is the price paid, rather than the current value. If inventory is loaded with items no longer in demand, or with deflated prices, then the total inventory value would be grossly overstated. Buyers should know very precisely what is in inventory, its current real value …and that it currently exists.
Another dangerous area is accounts receivable. Make sure there are not many overdue accounts which may not be collectible. Evaluating a business based on future expectations of profits and return on investment is better suited to the serious buyer. Such projections are not easy, but may well be preparation of projected profit and loss statements, since the seller's estimates are often likely to be overstated. This is where an accountant with extensive small business experience is an invaluable resource.
Some inexperienced would-be buyers should take a personality inventory before undertaking the operation of a small business. SCORE counselors have spoken to many owners who may not be suited to the demands of a business. If potential buyers lack experience or knowledge of business principals, they should consider calling SCORE at (619) 557-7272, where many counselors have experience in evaluating businesses and establishing a price for both buyer and seller. They will be glad to visit both buyers and sellers in person to assist in the process.
SCORE is a volunteer organization sponsored by the U.S. Small Business Administration. Its sole purpose is to help strengthen America's small business community through free counseling and low cost workshop programs. To learn more about these services, visit www.score-sandiego.org for "free business stuff," workshop pre-registration and women's programs or call (619) 557-7272 weekdays. SCORE offers free business counseling Mondays at 9:30 a.m. at the Carlsbad Chamber of Commerce.