Valuing a Seattle Small Business

Attaching a dollar value to an owners company is a touchy subject--especially if they have spent years building it from a fledgling start-up to a profitable enterprise. The process can quickly devolve into a pricing routine that is rooted in personal attachments and other subjective inputs rather than solid data based on marketplace realities.

Let's be clear: the value of your business is the amount someone is willing to pay for it in the business-for-sale marketplace. Period. Personal feelings about your company's worth are far less important than sound valuation methodology, accurate documentation, seller financing and other factors that could potentially influence value.

Common Valuation Methods

One of the reasons business valuation is such a complicated issue is because there are many acceptable valuation methods. Rather than using a "one-size-fits-all" valuation approach, sellers need to decide which method is right for their business based on industry, size and the circumstances of the sale. The reality is that the valuation can often be a negotiation based on one ore more of the below valuation options. 

An asset-based valuation is a straightforward method in which the value of the business is determined by the total value of the company's tangible and intangible assets. The challenge with this method is that asset-based valuations can neglect the value of the company's earnings potential. That is why asset-based valuation is a common method for the sale of defunct businesses and liquidations, but not for thriving companies.

The earnings multiplier method is often the best way to assign value to a healthy business that will be listed on the open marketplace. By basing price or value on some multiple of the business's earnings potential, prospective buyers gain the ability to translate the purchase into earnings and an informed return on investment (ROI) estimate.  This also provides a more tangible and simpler basis by which to compare different businesses in different industries or locations.

However, even the earnings multiplier valuation method presents challenges. Although earnings data is based on the business's historical financial performance, the calculation requires earnings to be precisely defined and agreed upon by both parties. Likewise, you will need to select the right multiplier to apply to defined earnings. There can be a large variance in multipliers (e.g. 1, 3, 5, 10 or more) since the valuation reflects business risk and industry standards. With that being said, a simple way to get to a proper multiple is to work with a business broker who can share recently sold business comparables (commonly known as "comps"), so that you can see what multiples businesses in your industry and location have historically or recently sold for. Prior to working with a broker, you can visit business for sale websites like BizBuySell.com or BizQuest.com to see what prices and multiples of cash flow or revenue current businesses are listed for and have sold for.

How to Improve Business Value

There are options you can take to increase it prior to a sale. It is important to start immediately however, as you need to start planning months or years in advance to implement the kinds of changes that substantially improve the value of your company.

From a buyer's perspective, proven profitability and future earnings potential are the most attractive qualities in a potential business acquisition. By documenting a multi-year track record of profits and positive cash flow, you can drive up the value of your company--substantially, if you choose to use the earnings multiplier valuation method.

But it's also important to strategically position your business for future earnings, identifying advantages your business either has or will have in the general marketplace. In some instances, the future prospects of the sector itself can be a factor in driving up business value.

Another strategy for improving business value is basic organization. Carefully maintained financial records, documented employee policies, a neat and clean facility--it all counts when it comes to the amount buyers are willing to pay for your business. Simplicity has value, and the easier it is for buyers to understand your business and envision themselves at the helm, the more likely it is that your business will sell for its full value.

Seller financing also plays a role in improving the value of your business. Although financing part of the sale is not an option for every seller, buyers are sometimes willing to pay more for businesses that include some level of seller financing, particularly in tight credit markets. Business owners who use their network and business-for-sale website listings to advertise their willingness to finance part of the deal should expect a significant uptick in the number of offers.

For more information on valuing your business, consider contacting a Seattle Business Broker. Feel free to contact me directly. 

Scott Weitz

Attorney/ Designated Broker - Rylee Park Properties

150 Lake Street S; Ste 216

Kirkland, WA 98033

Direct: (206) 306-4034

Seattle 1031 Rules

While many know of the general 1031 rules and application, few know the details of the 1031 process and exact what is allowed to be identified prior to the 45 day identification period. Below is a brief overview of some the limitations of what can be identified. For more formation, consider contacting a Seattle 1031 Broker. 

Identification Rules and Exceptions (1031 Exchange ID Rules)

For a successful 1031 that is IRS compliant, you must comply with at least one of the following identification rules or exceptions when completing the identification of your like-kind replacement properties:

Three (3) Property Identification Rule

The three (3) property identification rule limits the total (aggregate) number of like-kind replacement properties that you can identify to three (3) potential like-kind replacement properties.  The vast majority of Investors today use this three (3) property identification rule.

You could acquire all three of the identified like-kind replacement properties as part of your 1031 Exchange, but most Investors generally only acquire one of the three identified properties.  The second and third identified properties are merely identified as back-up like-kind replacement properties in case you can not acquire the first property.

You can skip the three (3) property identification rule and use the 200% of Fair Market Value Rule if you are trying to diversify your investment portfolio and wish to identify more than three (3) like-kind replacement properties.

200% of Fair Market Value Identification Rule

The IRS allows you to identify more than three (3) like-kind replacement properties as long as the total (aggregate) fair market value of all the identified like-kind replacement properties does not exceed 200% of the total (aggregate) net sales value of your relinquished property(ies) sold in your 1031 Exchange.  The limitation is only on the total (aggregate) identified value.  There is no limitation on the total number of like-kind replacement properties. 

For example, if you sold relinquished property(ies) in the amount of $2,000,000 you would be able to identify as many like-kind replacement properties as you want as long as the total (aggregate) value of the identified like-kind replacement properties does not exceed $4,000,000 (200% of $2,000,000).

95% Identification Exception

Its good to have choices, but be careful with this exception.  It is an exceptionally useful tool under the right circumstances, but can present some tricky problems. 

You may need to identify significantly more like-kind replacement properties than the first two identification rules permit.   There is no limit as to the total (aggregate) number or value of identified like-kind replacement properties permitted under the 95% exception as long as you actually acquire and close on 95% of the value identified.

However, if you do not acquire and close on at least 95% of the value of the identified like-kind replacement properties the entire 1031 Exchange transaction will be disallowed.

Hopefully, you find this helpful! For more information consider reaching out to a Kirkland 1031 Real Estate Broker.

You can reach me direction at the following: 

Scott Weitz

Kirkland Real Estate Attorney/ Designated Broker

University of Washington LLM in Taxation

T: (206) 306-4034

Scott@ryleepark.com

Seattle Business Sale: Asset vs. Stock Sale

Although deal lawyers generally describe their practice as involving “mergers and acquisitions,” the sale of a small or medium-sized business is usually structured as either an equity sale or an asset sale. Which structure is right for you depends on your circumstances. Below is a cursory overview of some of the differences between Asset and Stock Sales. That said, no two deal are the same so its best to look at sales on a case by case basis. For more information on a Seattle Business Sale, consider check our a Seattle Business Sale Broker, or call me (Scott) at 206.306.4034

Two ways of structuring a business acquisition:

Equity sale (Stock Sale): buyer purchases the equity from the owner or owners of the target company — stock in the case of a corporation and membership interests in the case of a limited liability company. The business is transferred to the new owners, corporate (or limited liability company) entity and all, and the target (i.e., the business being purchased) becomes a wholly-owned subsidiary of the purchaser. There is no change in the status of the target entity itself, and its contracts, assets, and liabilities remain with the entity.

Asset sale: specified assets are transferred from the target company to the purchaser, while the corporate or limited liability company entity remains in place and continues to be owned by its owners. The assets transferred might be all of the target company’s assets, or they might be more limited in scope. Similarly, some or all of the target’s liabilities might be transferred to the purchaser or retained by the target company, although most of the liabilities often stay with the target.

Pros and Cons

Now let’s take a look at some issues that buyers and sellers need to consider when structuring a business acquisition. In general, buyers prefer asset sales and sellers prefer equity sales.

Which one do I use? 

Do the parties want all of the target’s assets and liabilities to be transferred to the business buyer?

In an equity sale all of the assets and liabilities remain with the target company, so if the parties want only some of the target’s assets be transferred to the buyer, then an asset sale will be preferable. In addition, if the buyer wants to leave some or all of the target’s liabilities with the seller, then an asset sale will be preferable, because the buyer indirectly assumes responsibility for all of the known and unknown liabilities of the target when a transaction is structured as an equity sale.

As a practical matter, I always prefer Asset Sales for small business buyers to protect from the unknown liabilities (State & Local Taxes, IRS, etc)

Tax considerations

An advantage to the buyer of an asset sale is that the buyer can allocate the purchase price for tax purposes among the various purchased assets to reflect their fair market value. In addition, the buyer’s tax basis in the assets is equal to the purchase price of the assets. In the case of assets that have been depreciated by the target company, the buyer’s basis in the assets is higher than it would be on the books of the target company.

A disadvantage to the seller of an asset sale is the double taxation that can result if the target is a C corporation. The sale of assets is generally a taxable event that results in the assessment of tax at the corporation level. The sale proceeds are taxed again when they are distributed to the shareholders in the form of a dividend. In contrast, in an equity sale, the seller generally pays the applicable short-term or long-term capital gains rate on the sale of his or her stock, and there is only one level of taxation.

Governmental authorizations, permits, and licenses

Some governmental authorizations, permits, and licenses are not transferable. If the target company holds such permits and licenses, an equity sale might be preferable to avoid the necessity of transferring them to the purchasing company. Structuring a transaction as an equity sale won’t solve the problem in all cases, but it often does.

Contracts requiring consent for assignment

If the target company has important contracts that aren’t assignable without the consent of the target’s counter-party due to anti-assignment clauses contained in the contracts, an equity sale might be preferable. Because the target’s contracts remain intact in an equity sale, they generally are not assigned and thus consent isn’t required. The parties should use caution, however, because some contracts define “assignment” to include a change of control, which would be triggered in the event of an equity sale.

State corporation laws

State corporation laws need to be considered when a business is sold via an asset sale. The sale of all or substantially all of a corporation’s assets generally requires the approval of the corporation’s board of directors and shareholders. In contrast, a stock sale does not require the approval of the target company’s board of directors, although in most cases it requires the consent of all the shareholders.

For More Information on selling a Kirkland, WA business, consider contacting a Kirkland Business Broker. 

You can reach me directly at: 

Scott Weitz, Attorney, Designated Broker

Rylee Park Properties

T: (206) 306-4034 or scott@ryleepark.com