Buyout Opportunities

1. 16 Buyout Opportunities PowerPoint Presentation by Ian Anderson, Algonquin College

2. Looking Ahead After studying this chapter, you should be able to: 1. List some reasons for buying an existing business. • Summarize four basic approaches for determining a fair value for a business.

3. LO 1 Reasons for Buying an Existing Business • To reduce some of the uncertainties and unknowns that must be faced in starting a business from the ground up. • To acquire a business with ongoing operations and established relationships. • To obtain an established business at a price below what it would cost to start a new business.

4. LO 1 Finding an Existing Business to Buy • Relying on Professionals • Matchmakers • Accountants • Lawyers • Other experienced business owners

5. Pros High chance of success Less planning Existing customers/ suppliers Necessary equipment Bargain price Experienced employees Existing business records Cons Existing problems Poor quality of current employees Poor business image Modernization required Purchase price based on inaccurate data Poor business location LO 1 Pros and Cons of Buying an Existing Business

6. LO 1 Finding Out Why the Business Is For Sale • Owner’s reasons for selling the business • Old age or illness • Desire to relocate in a different section of the country • Opportunity to start another business • Decision to accept a position with another company • Unprofitability of the business • Discontinuance of an exclusive sales franchise • Maturation of the industry and lack of growth potential

7. LO 2 Examining the Financial Data • Review financial statements and tax returns for the past five years. • Recognize that financial data can be misleading. • Assets overvalued • Expenses overstated/understated • Income underreported • Unrecorded debts

8. LO 2 Income Statement as Adjusted by Prospective Buyer Exhibit 16-1

9. LO 2 Valuation of the Business • Asset-Based Valuation • Estimates the value of the firm’s assets; does not reflect the value of the firm as a going concern. • Market-Based Valuation • Considers the sale prices of comparable firms; difficulty is in finding comparable firms. • Cash-Flow-Based Valuation • Compares the expected and required rates of return on the amount of capital to be invested in the business.

10. LO 2 Asset-Based Valuation • Modified Book Value Technique • Historical value of firm’s assets is adjusted to reflect current market values. • Replacement Value Technique • Value of firm’s assets is adjusted to reflect current costs to replace the assets. • Liquidation Value Technique • Value of firm’s assets is adjusted to reflect their value if the firm ceased operations and disposed of the assets.

11. LO 2 Earnings-Based Valuation • Earnings Multiple (Value-to-Earnings) Ratio • Determine normalized earnings, and • Divide this amount by a capitalization rate. • Normalized earnings are earnings that have been adjusted for any usual items such as fire damage. Normalized Earnings Firm’s Value = Capitalization Rate

12. LO 2 Cash Flow-Based Valuation • Estimate the future cash flows that can be expected by the investor. • Decide on the investor’s required rate of return.

13. LO 2 Risk Premium • The difference between the required rate of return on a given investment and the risk-free rate of return • Required rate of return = • Risk free rate of return + Risk Premium • Table 13-1 lists suggested risk premium categories

14. LO 2 Negotiating and Closing the Deal • Competition • Market • Future CommunityDevelopment • Legal Commitments • Union Contracts • Buildings • Product Prices

15. LO 2 Negotiating and Closing the Deal • Terms of Purchase • Assets purchase or total entity • Indemnification clause • Payment in full or partial payments over time • Closing the sale • Best handled by a third party • Bill of sale • Tax certifications • Payment-to-seller agreements and guarantees