BUSINESS Name: Xyz Widgets
Prepared By: Tested on Nov 28, 1998
BUSINESS VALUATION - METHODS AND VALUES
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1. BOOK VALUE:
Assets less Liabilities EQUALS BOOK
VALUE OF:.........$ 225,000
=============
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2. YEARS PURCHASED METHOD:
* Average Net Earnings
$ 70,000
Less: 4.00 % Return on Book Value:
$ 9,000
Equals Excess Earning on Book Value:
$ 61,000
Excess Earnings times 3 Years
Purchased: $ 183,000
Plus Book Value:
$ 225,000
EQUALS TOTAL
BUSINESS VALUATION OF:...............$
408,000
=============
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3. CAPITALIZATION METHOD:
* Average Net Earnings
$ 70,000
Capitalized at 10.00 % Rate of Return
EQUALS TOTAL
BUSINESS VALUATION OF:...............$
700,000
=============
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4. COMBINATION (BOOK + GOODWILL) METHOD:
* Average Net Earnings
$ 70,000
Less: 8.00 % Return on Book Value:
$ 18,000
Equals Earnings Attributed to Goodwill:
$ 52,000
Times Goodwill Multiplier of: 4
Equals Value Attributed to Goodwill:
$ 208,000
Plus Book Value:
$ 225,000
EQUALS TOTAL
BUSINESS VALUATION OF:...............$
433,000
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AVERAGE VALUATION (All Methods).......................$
441,500
AVERAGE VALUATION (Book Value Not Included)...........$
513,667
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* Includes amount equal to owners salary less replacement
employee cost.
This report has been prepared based upon information
provided by you or
your advisors. All specific legal or tax
questions should be directed
to your legal or tax counsel. This is an illustration
only.
Page 1
C O N F I D E N T I A L I N F O R M A T I O N
REPORT FOR: Mr. Widget
BUSINESS: Xyz Widgets
Based upon the selected valuation amount of: $
441,500
and your percentage of ownership of:
75.00 %
THE PRESENT VALUE OF YOUR SHARE OF OWNERSHIP IS...........
$ 331,125
In 3 years, at a projected annual growth rate of 25.00%
per year, the future value of your share will be:
$ 646,729
This will increase the value of your ownership by
$ 315,604
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POSSIBLE BUY/SELL PURCHASE
OPTIONS AND EARNINGS REQUIRED
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1. PURCHASE USING RETAINED EARNINGS (SURPLUS)
* BEFORE TAX EARNINGS NEEDED............................$
413,906
Taxes on earnings
$ 82,781
After Tax earnings required
$ 331,125
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2. INSTALLMENT LOAN OR NOTE PAYABLE IN 10 YEARS AT
9.00 %
* AVERAGE ANNUAL BEFORE TAX EARNINGS NEEDED.............$
58,613
Average annual interest payment
$ 17,222
Average annual principal payment
$ 33,113
Taxes on earnings (for principal)
$ 8,278
Note: An interest only note would cost
$ 29,801
per year with the principal of $331,125
still due and payable !!
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3. INSURED BUY/SELL FUNDED WITH LIFE INSURANCE (Based
upon age 55)
* BEFORE TAX EARNINGS NEEDED............................$
2,328
Approximate amount to insure on your
life $ 331,125
Taxes on earnings
$ 466
Initial Life Insurance Premium required
$ 1,863
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COST COMPARISON OF ALL BUY/SELL OPTIONS
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NET COST *NET COST PLUS TAX
1. Use of retained earnings.......$
331,125 $ 413,906
2. A 10 year installment loan.....$
50,335 $ 58,613
Interest ONLY note (forever)...$
29,801 $ 29,801
3. Funded with Life Insurance.....$
1,863 $
2,328
------------------------------------------------------------------------
* Base upon marginal tax bracket of
20 %
Page 2
Definitions For Valuation Methods
BOOK VALUE:
Book Value is simply the Assets minus the Liabilities
of the business.
YEARS PURCHASED:
The years purchased method is based upon the value
of excess earnings times the years of earnings purchased plus the book
value. Excess earnings are the average net earnings less the value of earnings
that may be attributable to book value at a Secure Rate of Return. In other
words if you could sell the business for it's book value and invest the
proceeds at a Secure Rate of Return then those earnings would be the amount
attributable to the book value. earnings in excess of that amount are the
Excess Earnings. The excess is then multiplied by the number of years of
earnings purchased.
CAPITALIZATION:
The capitalization method is capitalizing the value
of the Average Net Earnings at a given interest rate. The value of any
excess salary of an owner employee is generally added back to the net earnings
for this calculation. The interest rate used for the Capitalization Method
may be from 5% to 25%. The greater the risk of the business the higher
the rate of return. The average business may be from 12% to 18%.
Note: The higher the rate the lower the valuation will be.
COMBINATION (BOOK VALUE + GOODWILL):
The combination method calculates the Earnings Attributed
to Goodwill by subtracting the value of earnings attributable to book value
from the net earnings. The earnings attributable to book value is the amount
that is equal to a reasonable rate of return on the book value. The difference
is attributed to Good Will and is then multiplied by the Good Will factor.
The value of good will is then added to the book value for the total. The
goodwill factor may be somewhat difficult to arrive at. It must be
a minimum of 1. However, it can be placed anywhere between 2 and 15 or
more. A good rule of thumb is, the higher the capitalization rate the lower
the goodwill multiplier. For example a capitalization rate of 20 may yield
a multiplier of 4 and a capitalization rate of 12 may yield a multiplier
of 6.
Note: All methods except book value are somewhat subjective
since factors such as the interest rates, good will and years purchased
are variable.
