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No Good Comps? 3 Better Ways to Business Valuation.

Are you ready to value your business?

The Guideline Public Company method is a technique used to value a company based on the pricing multiples for similar companies (“Comps”).

What if there are no good Comps to use during your company valuation?

Comparing the size and scope of operations between companies is challenging. Problems with comparability arise when a company is atypical and operates in a niche segment offering unique products and services.

Here are three ways to value your company.

Cost approach

The cost approach to valuation is also known as the asset-based approach.

This approach involves understanding a company’s value through determining the market value of its assets. The cost approach serves as a floor to the valuation because a company’s assets are usually worth more while the company is running than if the company closes and liquidates its assets.

If your company is asset-intensive, however, this may be a better valuation technique with no need for a comparable analysis.

Market approach using transactions

Instead of Comps, a business may be valued using transaction data.

This method is also known as the Guideline Transaction method. It can include both private and public company transactions.

The valuation measure of companies sold can be a good proxy for a specific company. In certain industries, there are:

  • Large numbers of similar transactions
  • Many transactions occurring within a similar geographic region
  • Recently occurring transactions

Of course, this method is very dependent upon the transaction structure. Factors such as cash vs. debt, contingent earn outs, non-competition agreements, and employment agreements impact valuation. Given these, selecting the appropriate transaction multiple to apply to the subject company must be done carefully.

Discounted cash flow

An income approach converts future expected economic benefits to a present dollar amount.

Within this technique, a company’s after-tax cash flows are adjusted for changes in working capital, capital expenditures and outside capital needs. The most common methods used are Single Period Capitalization and Multi-Period Capitalization.

A Multi-Period Capitalization provides the greatest flexibility and is particularly useful for valuing high growth businesses.

On the other hand, a Single Period Capitalization of earnings often applies to established businesses with stable earnings.

The adjusted after-tax cash flows are then discounted to the present by a discount rate that is proportionate with the risk of investing in the subject company.

With so many different ways to value a company, the lack of close, peer company comparables is not a barrier to a good, comprehensive business valuation. Working closely with your valuation partner is the best way to get the most accurate assessment of your company.

If you need help understanding the value of your business, Quist Valuation can help. Let’s set a time for a free 30-minute consultation. We can discuss the specifics of your business and identify areas to focus on as you progress along the path of increased value for your business.

Schedule your free 30-minute consultation here.

tax reform

Is your business worth more – or less – in 2018?

Now that the Tax Cut and Jobs Act is law, what now? Because these rules affect the value of your business, every business owner needs to be aware of these important changes.

Overall, companies with currently high effective tax rates, low leverage, limited tax attributes and high capital intensity are likely winners in the new world. Take away any of these characteristics and the picture is less clear.

Tax Reform Impacts

Impact on cash flows

Many are wondering if the drop in the tax rate from 35% to 21% will increase after-tax income proportionately. In order to determine the full impact on after-tax income, it’s important to remember that the effective federal corporate tax rate averaged 23% in 2017, implying a much smaller decline in the tax rate than what appears on the surface. As such, after-tax earnings are anticipated to increase closer to 7% in 2018 as opposed by more than 20% as implied by the change in the statutory rate from 35% to 21%.

Over time, the ability to fully expense capital expenditures could lead buyers to pay more for assets or businesses. Also, the limits on the deductibility of interest expense could also offset the impact of lower tax rates on free cash flows.

Impact on rate of return

The rules also affect a business’s value through the cost of capital and anticipating effects on the market equity risk premium. A lower tax rate environment may drive more competitive markets. Potential buyers may think expected profits are riskier or less certain due to the new rates. That additional risk may require an increased rate of return to partially offset the gains.

Companies’ cost of debt is impacted in two ways. First, reducing the marginal tax rate increases a company’s after-tax cost of debt. Second, limits on the amount of interest that a company may deduct from taxable earnings further increase the cost of debt, particularly for those companies that are more heavily leveraged.

As the cost of debt and equity capital increases, the value of a company decreases. Potential increases in company value due to improved cash flows may be offset by increases in the cost of capital.

Impact on multiples

In a market-based approach to valuation, the current increase in share prices may already echo the expected changes in tax rate. However, to truly understand the impact on value, it is important to apply forward-looking multiples that reflect a company’s earnings under the new tax law.

In the current environment where there are fewer acquisition targets than buyers, M&A transaction multiples could expand. Corporates that experience lower effective tax rates and repatriate more than $2 trillion in cash held offshore will have more cash to spend on M&A. There are varying data points that suggest that the changes in the tax law will sustain the incredible run seen in transactions with valuations increasing another 0.5x EBITDA.

“No matter what you think about the tax reform package, there is one thing that is not debatable: it will impact equity value and affect corporate behavior in the coming year.” ~Aswath Damodaran, Professor of Finance at the Stern School of Business at NY

Company Value

Your company’s value is based on many factors, including the company’s assets and its market value. The ability to depreciate equipment faster and the potentially lower tax burdens change the value of your business. Due to the sunsetting of certain provisions such as interest expense deductibility and the expensing of certain qualified capital expenditures, the impact on earnings going forward will be quite varied. Don’t be surprised if longer-term forecasts are requested in order for the impact of the tax changes to be fully reflected in your business value. It’s time to evaluate your company’s new value. Plan now for a more profitable 2018.

Have questions about how the new tax laws affect the value of your business? Quist Valuation can help. Let’s set a time for a free 30-minute consultation. We can discuss the specifics of your business and identify the next steps needed to assess the value of your company.

Schedule your free 30-minute consultation here.  

Brand ValueI was recently asked by a prospective client to discuss how Quist Valuation thinks about brand in a valuation engagement:

  1. What are the dimensions of brand value?
  2. How do we consider the stages of brand development?
  3. What approaches are used to measure brand value?

A company’s “brand” encompasses a variety of concepts: it is your trademark, your trade name, the quality of your product, your technology, your reputation. A brand consists of more than a bundle of tangible, functional attributes; its intangible, emotional benefits, along with its “identity,” frequently serve as the basis for long-term competitive differentiation and sustained loyalty. How you manage those brands is an essential piece of building value for your organization.

Brands are far too important to be left to brand people and marketers. It is the responsibility of the CEO to nurture the brand.” – David J. Haines, Chairman of Grohe, the leading global provider for sanitary fittings.

Brand value is important in many of the businesses we work with. Identifying and quantifying intangible assets driven by brand value are the purpose in many of our valuation assignments. In fact, approximately 20 percent of our work is for Purchase Price Allocations (PPAs) – projects that quantify the portion of the price paid for a target company that relates to trade names/trademarks, customers, technology, employees, and hard assets. Even when the allocation of tangible and intangible assets is not the objective, the strength of a company’s brand value is critical for determining the reasonableness of 1) growth rates (i.e. strong brand value helps penetrate new markets and maintain current sales); 2) margins (i.e. strong brand improves the value of the product and results in greater pricing power); and 3) risk (i.e. strong brand value can increase switching costs for customers or facilitate the expansion of product offerings).

We have extensive experience with brand value in the food products industry. Our clients have included national and international producers of health food products, bread, coffee, cheese and beer. Some of these companies held portfolios of localized brands while others have international recognition. One area of the food industry that has seen significant growth and a run up in valuation in recent years is the natural and organic food sector. We are fortunate to be headquartered in Boulder, Colorado a hub for the natural foods industry. While the natural and organic foods segment still makes up a small percentage of the overall food industry, it has become an ever-increasing crowded market where competitors can make unsupported claims about food safety, nutrition and health. As such, building trust with the consumer is an important factor in growing brand value. This uncertain landscape is a benefit to participants that can establish and communicate value through their trademarks, trade names and packaging. Nutritional education and the messaging of a company’s vision and mission communicated through social media are important drivers of growing brand awareness.

Obviously, branding is not limited to food products. It is a key part of any business that sells a product that can be confused with its competitors. A company can leverage its brand to show many attributes including: longevity, reliability, quality and value. In many cases, the strong performance of a single branded product allows the company to market related products. We have seen this strategy play out in many industries including ski and cycling clothing, western-wear clothing and sports clothing technology. Beyond traditional consumer brands, brand value is used to sell tools, equipment and specialty chemicals.

There are generally three ways to determine the value of a brand:

  1. Assess the cost to build and replace the brand;
  2. Assess the cost to buy the brand; and
  3. Assess the additional profit earned by using the brand.

For brand value, the second and third methods are generally preferred. We have a database of licenses that we query for license agreements related to similar products. These arm’s length agreements allow us to determine what rate a participant will pay to use the trademark or trade name associated with a brand. We can also determine how the business is improved by the brand by considering the profit margin earned with the brand compared to industry profit margins. In practice, the consideration of brand value also manifests in the selection of a comparable market multiple to apply to the company and in the determination of an appropriate discount rate to apply to the company’s projected cash flow streams.

Brand is an essential piece of determining a company’s overall Strategic Value. Here at Quist Valuation, we look at five main drivers to business value: 1) Financial Value; 2) Strategic Value; 3) Organizational Value; 4) Customer Value; and 5) Employee Value.

Strategic Value considers industry dynamics such as barriers to entry, capital intensity, industry concentration, regulatory environment, and industry life-cycle. It takes into account an entity’s competitive position and brand recognition, and it measures an entity’s growth opportunities and how it responds to external factors. A well thought out and written business plan that includes a company’s brand strategy can really add to the strategic value of a company. The ability to clearly articulate a company’s vision and cause increases its value proposition to the consumer. With these strong messages, stronger pricing power, brand loyalty, and higher switching costs can drive revenue growth, profit margins and reduce risk.

By: H. Warrick Jervis, Quist Senior Financial Analyst –

In the context of a Purchase Price Allocation, Goodwill represents the total consideration paid for an acquisition, less the value of the tangible and identifiable intangible assets. Essentially, it is a residual value – the leftover amount. Most auditors, however, find this textbook definition completely unsatisfying. And understandably so – I am hard-pressed to think of anyone willing to pay good money for leftovers. Obviously, there must be more to it…

A more relevant question is: “What does Goodwill represent?” As is typical in valuation, the answer depends on the facts and circumstances that are unique to each transaction. Following is a brief discussion of some of the more common components of Goodwill:

  • Assembled Workforce is not amortized for financial reporting purposes, just like the other components of Goodwill. However, the assembled workforce is unique in that it is the only component of Goodwill that often is valued separately (usually under a replacement cost) so that it can be considered as a contributory asset under the excess earnings approach (a topic for another day). In human-capital intensive industries, or those requiring a very specialized skill-set, the Assembled Workforce can represent significant value.
  • Competitor Elimination can be an important consideration in the “build” (organic growth) versus “buy” (acquisition) decision. In some cases, eliminating a would-be competitor in a target market can solely be a defensive maneuver, but more often than not there is an offensive aspect as well.
  • Risk Reduction can be achieved through revenue or geographic diversification. There is also the potential to acquire operational redundancy and reduce operational risk.
  • Time to Market encompasses the notion that purchasing a company may be a faster (and easier) way to grow or expand relative to organic growth.
  • Sales Pipeline includes the sales leads and the prospect of converting potential customers to actual customers. Active customers and customer lists, meanwhile, are valued separately as an intangible asset.
  • Going Concern Value embodies the fact that every Purchase Price Allocation is supported by a discounted cash flow valuation, and an acquirer is buying the present value of expected future cash flows.

While this list is certainly not exhaustive, it should be evident that Goodwill is a very important aspect of most transactions. Particularly in situations where there are few tangible assets, it is not uncommon to see 50.0 percent or more of the purchase price allocated to Goodwill.

Goodwill is perhaps the least examined of all the assets on the balance sheet. Just because Goodwill is comprised of intangible assets that are not valued separately does not mean Goodwill is not important. Here at Quist, we treat Goodwill with the same attention and care as the other assets involved in a transaction, and take the time to understand exactly what it represents. To us, Goodwill is more than just a residual – it often encompasses very important components of value that can be critical aspects of any transaction rationale.