By JoAnn Lombardi, VR Business Sales/Mergers & Acquisitions, President

VR Mergers & Acquisitions customarily use the cost, income and market approaches when valuing a business. But where do less scientific metrics – like industry rules of thumb – fit into the valuation paradigm.

The International Glossary of Business Valuation Terms defines “rule of thumb” as:

“a mathematical formula developed from the relationship between price and certain variables based on experience, observation, hearsay, or a combination of these; usually industry specific.”

Rules of thumb serve as useful sanity checks for controlling interests valued using more technically sound methods. However, VR staunchly believes that they should not be used as the sole method of valuation for several fundamental reasons:

They’re unsupported. Not to be confused with the market approach – which derives valuation multiples from customized empirical data and in-depth statistical analysis – rules of thumb are based largely on folklore or word of mouth.

For instance, suppose an owner hears “through the grapevine” that a competing business sold for 80% of revenues. Although the formula may be worth noting, the firm has no means of verifying the rumor’s accuracy or underlying details. When you have your business valuated by a professional, you will get a complete examination of what you should be selling your business for, where the buyer will know exactly what they’re receiving.

They’re oversimplified. Valuation formulas also fail to account for differences between industry participants, such as non-operating assets, niche markets, management quality, operating risks or geographic location. Simply stated, they don’t consider many of the underlying factors, risks and attributes specific to a business that directly affect its overall value.

Moreover, ambiguous rules of thumb leave many unanswered questions. To illustrate, VR asks you to consider the prevalent rule of thumb for manufacturers of three to five times earnings:

• Does the term “earnings” refer to net income; earnings before interest, taxes, depreciation and amortization (EBITDA); or something in between?
• Does the formula assume an asset or a stock sale?
• Does it include real estate, inventory and intangibles?
• Does it generate a cash equivalent price, or did underlying transactions involve extended payouts, such as earn-outs or seller financing?

They’re outdated. As demand fluctuates, old transaction data may lose its relevance. Pricing multiples are affected by general economic conditions as well as industry forecasts and trends. For instance, an influx of new competitors, revolutionary technology or industry roll-ups might have an impact on pricing multiples.

They’re not credible in court. Historically, courts have rejected rule-of-thumb value determinations if used as a stand-alone valuation method.

If you’re looking to sell your business or, at the very least, determine what your company’s value is worth, make an appointment to consult your VR M&A Advisor in your area. They will be able to guide you away from the incorrect assumptions of “rules of thumb,” and directly to the hard, accurate numbers that a comprehensive business valuation provides.

By Lindsay Polyak, Partner
Tax Credit Collective

In 2020 and 2021, an astounding number of small businesses began feeling the impacts of government mandates around COVID-19 regulations. Unfortunately, small businesses took a major hit then and many are still feeling the ripple effects of those mandates two years later.

The silver lining (and perhaps the government’s way of rewarding employers for continuing to pay their people during hard times) is The Employee Retention Credit. Most likely you have heard the words “employee retention credit” or “ERC” floating around. The good news is your business may qualify and you still have time to claim this credit!

As a firm whose sole mission is to assist small businesses in claiming specialized government incentives, we want to break down the ERC to answer questions you may have:

What is the ERC?

In an effort to help businesses retain employees and keep them employed during the COVID-19 crisis, the (CARES) Act created the Employee Retention Credit (ERC) for 2020 and later legislation extended it through 2021. The ERC is a refundable payroll tax credit for “qualified wages” that were paid to retained employees between March 13, 2020 and September 30, 2021. It is still retroactively available to many businesses.

Who qualifies for this credit? 

• Any business that was impacted by a partial or full shut down due to government orders/mandates during 2020 OR any business that saw a 50% reduction in gross receipts during any 2020 calendar quarter, as compared with the same quarter in 2019 OR
• Any business that saw a 20% reduction in gross receipts during quarters 1-3 in 2021 as compared with the corresponding calendar quarters in 2019 OR
• Any business that was impacted by supply chain issues related to port closures, mandated shutdowns, inability to obtain supplies, parts, etc.
• Types of Businesses that frequently qualify: Service businesses, marketing firms, medical practices, dental practices, med spas, restaurants, nonprofits, retail or wholesale, hotels, assisted living facilities, oil & gas, manufacturers, travel-related businesses, construction firms, and more.

What’s the potential value? 

The Employee Retention Credit is cash back to the business from the government which has a maximum value of $26,000 per employee retained during qualifying periods.

What if I got a PPP loan?

Most of our clients received PPP loans. Employee Retention Credits must be calculated with wages paid to employees not using PPP funds (i.e. before PPP loans were funded and after the forgiveness period[s] ended).

How can I claim this credit for my business?

The ERC can be a complicated tax credit with rules about no-double dipping into other incentives. Each business wanting to evaluate the ERC deserves a thorough 3 phase process by a tax credit expert:

• Phase 1- Determining eligibility and calculating the amount of credits available by quarter; (Tax Credit Collective does this at no charge.)
• Phase 2- Finalizing the credit calculation and amending the quarterly payroll tax returns (941s) for eligible quarters;
• Phase 3- Providing audit defense if and when the IRS questions a taxpayer’s claim of the IRS.

In summary, the Employee Retention Credit has provided billions of dollars of relief for small businesses, and your business may still have an opportunity to benefit from these tax credits. It’s complicated and time-consuming and has an audit risk associated with it, so it bears a comprehensive analysis by a firm with expertise in tax credits and incentives.

Lindsay can be reached at lindsay@taxcreditcollective.com or 833-346-2368

If you have resolved to make your company more valuable in 2022, you may want to think hard about how your customers pay.

If you have a transaction business model where customers pay once for what they buy, expect your company’s value to be a single-digit multiple of your Earnings Before Interest Taxes, Depreciation and Amortization (EBITDA).

If you have a recurring revenue model, by contrast, where customers subscribe and pay on an ongoing basis, you can expect your valuation to be a multiple of your revenue.

Buyers pay a pretty penny for companies with recurring revenue because they can clearly see how your company will make money long after you exit.

Not sure how to create recurring revenue? Here are four models to consider:

Products That Run Out

If you have a product that people run out of, consider offering it on subscription. The retailing giant Target sells subscriptions to diapers for busy parents who don’t have the time (or interest) in running to the store to re-stock on Pampers. Dollar Shave Club, which was acquired by Unilever in 2016 for five times revenue, sells razor blades on subscription. The Honest Company sells dish detergent and safe household cleaning products to environmentally conscious consumers and more than 80% of their sales come from subscriptions.

Membership Websites

If you’re a consultant and offer specialized advice, consider whether customers might pay access to a premium membership website where you offer your know-how to subscribers only. Today there are membership websites for people who want to know about anything from Search Engine Marketing to running a restaurant.

Services Contracts

If you bill by the hour or the project, consider moving to a fixed monthly fee for your service. That’s what the marketing agency GoBrandGo! did to steady cash flow and create a more predictable service business.

Piggyback Services

Ask yourself what your “one-off” customers buy after they buy what you sell. For example, if you make a company a new website, chances are they are going to need somewhere to host their site. While your initial website design may be a one-off service, you could offer to host it for your customer on subscription. If you offer interior design, chances are your customers are going to want to keep their home looking like the day you presented your design, so they might be in the market for a regular cleaning service.

Rentals

If you offer something expensive that customers only need occasionally, consider renting access to it for those who subscribe. ZipCar subscribers can have access to a car when they need it without forking over the cash to buy a hunk of steel. WeWork subscribers can have access to the company’s co-working space without buying a building or committing to a long-term lease.

You don’t have to be a software company to create customers who pay you automatically each month. There is simply no faster way to improve the value of your business this year than to add some recurring revenue.

How can you improve the value of your business?

Complete the “Value Builder” questionnaire today in just 13 minutes and we’ll send you a 27-page custom report assessing how well your business is positioned for selling. Take the test now:

Doctors in the developing world measure their progress not by the aggregate number of children who die in childbirth, but by the infant mortality rate – a ratio of the number of births to deaths.

Similarly, baseball’s leadoff batters measure their “on-base percentage” – the number of times they get on base – as a percentage of the number of times they get the chance to try.

Acquirers also like tracking ratios, and the more ratios you can provide a potential buyer, the more comfortable they will become with the idea of buying your business.

Better than the blunt measuring stick of an aggregate number, a ratio expresses the relationship between two numbers, which gives them their power.

If you’re planning to sell your company one day, here’s a list of six ratios to start tracking in your business now to start building value:

1. Employees per square foot

By calculating the number of square feet of office space you rent and dividing it by the number of employees you have, you can judge how efficiently you have designed your space. Commercial real estate agents use a general rule of 175–250 square feet of usable office space per employee.

2. Ratio of promoters and detractors

Fred Reichheld and his colleagues at Bain & Company and Satmetrix developed the Net Promoter Score® methodology. It is based on asking customers a single question that is predictive of both repurchase and referral.

Here’s how it works: survey your customers and ask them the question, “On a scale of 0 to 10, how likely are you to recommend <insert your company name> to a friend or colleague?” Figure out what percentage of the people surveyed give you a 9 or 10, and label that your ratio of “promoters.” Calculate your ratio of detractors by figuring out the percentage of people surveyed who gave you a score of 0 to 6. Then calculate your Net Promoter Score (NPS) by subtracting your percentage of detractors from your percentage of promoters.

The average company in the United States has a NPS of between 10 and 15 percent.  Reichheld found companies with an above-average NPS grow faster than average-scoring businesses.

3. Sales per square foot

By measuring your annual sales per square foot, you can get a sense of how efficiently you are translating your real estate into sales. Most industry associations have a benchmark. For example, annual sales per square foot for a respectable retailer might be $300. With real estate usually ranking just behind payroll as a business’s largest expenses, the more sales you can generate per square foot of real estate, the more profitable you are likely to be.

4. Revenue per employee

Payroll is the number one expense for most businesses, which explains why maximizing your revenue per employee can translate quickly to the bottom line. Google, for example, enjoyed a revenue per employee of more than $1.5 million dollars in 2021, whereas a more traditional people-dependent company may struggle to surpass $100,000 per employee.

5. Customers per account manager

How many customers do you ask your account managers to manage? Finding a balance can be tricky. Some bankers are forced to juggle more than 400 accounts, and therefore do not know each of their customers, whereas some high-end wealth managers may have just 50 clients to stay in contact with.

It’s hard to say what the right ratio is because it is so highly dependent on your industry. Slowly increase your ratio of customers per account manager until you see the first signs of deterioration (slowing sales, drop in customer satisfaction). That’s when you know you have probably pushed it a little too far.

6. Prospects per visitor

What proportion of your website’s visitors “opt-in” by giving you permission to e-mail them in the future? Dr. Karl Blanks and Ben Jesson are the cofounders of Conversion Rate Experts, which advise companies like Google and Apple on how to convert more of their website traffic into customers. Dr. Blanks and Mr. Jesson state that there is no such thing as a typical opt-in rate because so much depends on the source of traffic. They recommend that rather than benchmarking yourself against a competitor, you benchmark against yourself by carrying out tests to beat your site’s current opt-in rate.

Acquirers have a healthy appetite for data. The more data you can give them – in the ratio format they’re used to examining – the more attractive your business will be in their eyes.

How can you improve the value of your business?

Complete the “Value Builder” questionnaire today in just 13 minutes and we’ll send you a 27-page custom report assessing how well your business is positioned for selling. Take the test now: