Getting beyond the Dance: Business Valuation
Getting a transaction past the letter of intent stage and into diligence requires agreement on transaction price and an outline of general terms and conditions of a potential transaction.
Business valuation is much different that real estate valuation. The traditional comparative market analysis or broker price opinion approaches will not work for a business acquisition. A business uses its "assets" to generate income. If the business is generating money, how much more than its assets is it worth?
In 2011 Hewlett-Packard completed its acquisition of the British software maker Autonomy for $11.1 billion. Last November, 2012, Hewlett-Packard's shareholders were shocked when Hewlett-Packard took an $8.8 billion write off as a result of what it called serious accounting improprieties, outright misrepresentations, and disclosure failures that occurred at the U.K. software company Autonomy prior to the close. HP had relied on Autonomy's regular auditor Deloitte, its own internal diligence team, and had hired KPMG for an additional diligence review before the deal closed. While HP's internal team was aware of talk about accounting irregularities at the time the deal was struck no one found any material accounting irregularities.
Well, do seller's lie? Remember a seller is trying to "sell" you something so they naturally have a tendency to "window dress" the business for a sale. While sellers can be a wealth of information you must verify everything, or face the consequences after closing as Hewlett-Packard's experience demonstrates.
For commercial real estate business transactions what should you do? Traditional business valuation methods include:
* Asset value approaches: depreciated replacement cost or liquidation values can begin to set a transaction pricing range.
* Income Multiples or Capitalization of earnings: which are based on past reported information or future expected income (both adjusted to arrive at owner's free cash flow), or
* Rules of Thumb: Based on selling prices for other "like" businesses. …