Business valuation, an analysis of risk

17 05 2010

Business & Machinery Appraisals WorldwideBusiness valuation, an analysis of risk

By: George D. Abraham

CEO and Chief Appraiser

Analyzing risk is the predominate factor in valuing a business.  The appraiser must analyze every aspect of the business and quantify his or her analysis of the company’s risk into value.  A study of the significant risk factors in the business must be identified and then rated as to the degree of risk each carries.  The following are some of the factors to analyze in a business.

Labor

There are many key factors to analyze as far as labor is concerned. Are employees hard to find? What educational skills or level is required and is the labor pool such that they could be replaced?  If the company is highly technical, there may not be many individuals in the area that have those skills and thus make it difficult for the company to grow. On the other hand, many of these companies can outsource or use virtual offices with employees in any part of the country.

Are key employees and management due a significant salary increase? Again, many employees are faithful to the owner and feel that once the company grows a little more, they will be rewarded both in salaries and advancement.

What are the ages of the employees and key management?  If many of the key managers are close to retirement age, they may just retire when ownership changes. After many years on the job and very close to retirement, many in management don’t want the changes they perceive with new ownership.

What is the liability risk with the employees? Are the jobs they are performing such that accidents are a normal occurrence in the industry?  If this is the case, have the employees been trained sufficiently in safety procedures?  Is safety an on-going program for the employees?  If the company has delivery vehicles, a check of the accident history is in order.

Management

Will key employees’ stay once the company changes ownership? It is not uncommon for key employees to leave the company for a more lucrative position with a larger competitor.  Many times, the key employees stay with the company  as they are close to the owner and are in a position to contribute to the company’s growth and success and feel they will be rewarded heavily someday.

Has management been efficient?  Are they up to the challenges of the future?  Many companies have employees that grew up with the business but now the company has outgrown them.  They do not have the education or expertise to take the company to the next level.

How many of the key managers are relatives?  If all or most of the key managers are relatives, and will be gone after the company sells, there is no management.

Who is responsible for the majority of sales? Does the company have a sales force or is the owner responsible for most of the sales and if so, how hard would it be to replace him.

Financial Strength

Is the company solid or are they in a cash crunch?  Some ratio analysis can tell you what kind of financial position the company is in and how it compares to other companies in its industry.  An analysis of the company’s account receivables is necessary to see how they are getting paid.  An abundance of slow paying customers can drain the company’s working capital.  Insufficient working capital can prohibit the company from growing because it can’t buy enough raw materials or inventory to meet an increase in sales.

Does the company have the ability to buy from several suppliers or are they enslaved by one that can raise prices whenever they want?  Another question that pops up is how stable is the supplier?  Cost of sales is usually the largest expense for a company.  If you have no idea what the future costs are going to be, you can’t make any kind of meaningful future projections or budgets.

Facilities & Location

What is the length of the lease? Is it likely to increase? Are the facilities sufficient for the business and possible expansion? What about the company’s location? Are any major roadways or changes in the area likely to affect the company?

Diversity of Accounts

If the company loses one or two accounts will they be out of business?  Many companies have one account that equals a large portion of their business.  Unless these large accounts are under contract for several years, a buyer may be hard to find.  Will the accounts stay with a new owner is the heart of the analysis for the appraiser.

Competition

How strong is competition? What is the level of ease of entry into this industry? Are technological changes going to give a major competitor with more cash a significant advantage?

Predictability

What has the historical financial picture shown? What would it tell a buyer as to what he or she can expect in the future?

Marketability

How hard would it be to sell this company? How many buyers would be interested in this type of business?  Does the company have a really unique niche? What is the future of its customer base?  Do they manufacture sewing machines or medical equipment?

Future Outlook

Always remember that a business is bought on the assumption of its economic benefit to its owner. The more stable the financial future, as well as other factors like technological changes, environmental regulations, and public attitude, can have an effect on a buyer’s emotion. This relates to how long the buyer is willing to risk his or her money and therefore how fast he or she would want it back and thus the multiple of earnings he or she is willing to pay.





Business Personal Property & Taxes

10 05 2010

Business Personal Property & Taxes

By: George D. Abraham
CEO, Business Evaluation Systems
As stated in the tax code1, “Personal property” means property that is not real property. ”Tangible personal property” means personal property that can be seen, weighed, measured, felt, or otherwise perceived by the senses, but does not include a document or other perceptible object that constitutes evidence of a valuable interest, claim, or right and has negligible or no intrinsic value. In other words it is a company’s furniture, fixtures, machinery, equipment and inventory.

In a recent article in the Galveston County News, more than one million property owners rushed to file protests after 9.6 million appraisal notices were mailed across Texas in 2006, a half million resulted in appraisal review board hearings that were conducted at county appraisal districts, and 5,600 resulted in lawsuits filed in state district courts. Since then, property values still increased and the protests and filings have continued. Needless to say there is a real need for machinery and equipment appraisals to help businesses establish the fair market value of their personal property.

Having spent three years with the Galveston County Central Appraisal District as a Panel Chairman of the Industrial Review board and settling over 1,400 protests, I can tell you that the Appraisal District welcomes a certified appraisal on a company’s personal property because it establishes the correct value that will benefit the company and the Appraisal District for many years to come.

The Appraisal District knows its values are weak, but it is up to the taxpayer to prove it. If the taxpayer does not correct (notice the word correct instead of whining) their value, the Appraisal District assumes they are probably correct or too low since they seem to be satisfied with the value.

Initially the Appraisal District sends out forms for each new company to list their values for personal property. If the value seems low, then an appraiser from the Appraisal District visits the facility. He may or may not introduce himself or speak to the owner. Based on his or her visual assessment the value will stay the same or is adjusted and the owner will find out the results on the next tax statement. Many of the adjustments are made from ratios of similar companies in that industry. If the company feels the resulting values are too high then the company can file a protest with the Appraisal Review Board and can present their case as to why the values are not correct. The Appraisal Review Boards are made up of private citizens and few have any appraisal training. It is their job to listen to the taxpayer and then hear from the appraiser from the Appraisal District that valued their property. Once each side has presented their case, the 3 members of the panel will vote to see who they think is right and what to do about the value. All of the hearings are recorded and are conducted like a mini court room.

From my experience, most of the members of the Review Board are always sympathetic to the taxpayer, but can only lower values for solid appraisal reasons such as functional or economic obsolescence. In almost all cases, when the business has an appraisal from a credible appraisal firm, the panel has to accept that value as it is a true appraisal and not an estimate that the appraisal district came up with. The Appraisal District understands this and has no problems with adjusting the values per the appraisal.
Establishing the correct fair market value benefits both the business and the Appraisal District as it established the correct base for their computer to depreciate the assets over their remaining useful life (RUL). Industry tables for RUL are pretty much accepted by each industry and are generally accurate.

Business Evaluation Systems appraisers can help a business owner in any state with the value of their business personal property including inventory.

1 State of Texas, Property Tax Code, Section 1.04 (4)(5)