Business Valuations and Redundant Assets
Business Valuations and Redundant Assets
If you’re thinking of selling your business, it’s important to know which assets are considered redundant and can be eliminated from the sale. Redundant assets, also known as non-operating assets, don’t affect a company’s ability to generate earnings. When buyers are interested in purchasing a business, they typically aren’t interested in these types of assets since they don’t contribute to the operating value. You should only retain the assets a buyer requires to generate the income he wishes to produce as a seller.
There are two types of assets within a company: operating and non-operating. Operating assets are those used in the normal course of business to generate income. This includes things like inventory, accounts receivable, and equipment. Non-operating assets, on the other hand, are those that don’t contribute to earnings. These are typically things like cash, investments, and property.
While both types of assets are essential to a company, non-operating assets are typically not included in a sale since they don’t generate income. Therefore, a seller should only keep the running assets that a buyer needs to produce the desired income.
This article describes how redundant assets are included in business valuations.
The operating value of a business is the value generated from the company’s everyday operations. This is what buyers are interested in when they purchase a business since it represents the ability to generate income. Therefore, any assets that don’t contribute to this value are non-operating or redundant.
Identifying Non-Operating Assets
Non-operating, or redundant, assets are defined as assets not required to generate the regular earnings from a business. Consider the point that if you remove a specific asset from a business, will the business still be able to generate the regular earnings? If so, then the identified asset is redundant. If, on the other hand, this asset is required in generating the regular earnings, then the asset is an operating asset and cannot be removed from the business.
A clear example of redundant assets is where business owners have excess cash, and they have used the cash to buy investments. These investments may generate returns as investment income. This income in no way affects the regular business income, and so, the company could remove the investments from the financial statements, and place these investments directly with the owners’ account, outside of the business.
Types of Redundant Assets
Specific redundant assets include:
- Personal Investments
- Personal Vehicles
- Personal Cottages
- Other Personal Assets (i.e. Artwork)
- Excess Working Capital
- Excess Debt Funding
- Real estate
A sufficient level of working capital to run the business is required as part of the sale. Working capital is the money needed to keep operations running. It has things like inventory, accounts receivable, and accounts payable.
If a seller doesn’t include enough working capital in the sale, it can put the buyer in a difficult position. For example, if things don’t go well, the buyer may not have enough money to keep the business running and may be forced to shut down operations. As such, it’s important to make sure that there is enough working capital included in the sale.
Once a required level of working capital is identified for the subject business, any excess working capital is deemed redundant, and it should be removed from the business. Typically, transactions look at non-cash working capital, hence all cash left in the business will be kept with the original owners on closing. If there are excess inventories or receivables, accepted by the buyer, then there will be an adjustment to the closing price based on the level of working capital retained in the business.
This could also show a shortfall in working capital, where the level of working capital at the closing date is insufficient to run the business, and the transaction price will be adjusted to allow the purchasers to retain additional cash in the business through a lower purchase cost.
Sellers should only retain assets a buyer requires to generate the operating income he wishes to purchase. Therefore, it’s essential to ensure that enough working capital is included in the sale. Speak with a mergers and acquisitions advisor to help determine how much working capital is necessary to keep the business running.
When valuing a business, it’s important to consider all of the assets that are being sold. This includes both operating and non-operating assets. As discussed before, operating assets generate income and are necessary for the business to operate. Non-operating assets don’t generate revenue and aren’t required for the company to operate.
It’s also vital to contemplate the value of any intangible assets being sold. Intangible assets don’t have a physical form, such as patents or trademarks. These types of assets can be very valuable, but they can be challenging to value. As such, it’s essential to work with a qualified appraiser when valuing intangible assets.
The primary operating intangible asset for service-based companies may be the customer list. This is because service businesses generate income through customer relationships rather than physical assets. Other operating assets may include things like contracts, licenses, and permits.
Service-based companies are often valued without physical assets based on their earnings potential. This means that things like reputation and customer relationships are more important than ever. As a seller, you should focus on highlighting these aspects of your business to increase its value.
What Purchasers Look at
As a seller, you want to make sure that you are only selling the necessary assets for the buyer to generate the income he is looking for. To do this, it’s essential to understand what buyers look at when they’re considering purchasing a business.
One of the first things buyers analyze is the business’s balance sheet. The balance sheet is a financial statement that shows all of the company’s assets and liabilities. Buyers will use the balance sheet to determine what kind of shape the business is in and how much debt it has.
Another thing that buyers will look at is the business’s cash flow statement. The cash flow statement shows how much cash the company is bringing in and how much it’s spending. Buyers will use the cash flow statement to determine whether or not the business is generating enough cash to support its operations.
Finally, buyers will also look at the business’s income statement. The income statement shows the company’s revenue and expenses. Buyers will use the income statement to establish how profitable the business is.
When valuing a business, it’s important to consider all of these factors. By understanding and preparing for what buyers are looking for, you can ensure that you’re only selling the assets they’re interested in. This will help you get the best possible price for your business.
The Bottom Line
When valuing a business, consider the assets being sold, including both operating and non-operating assets. Non-operating assets are typically valued at a fraction of their book value. It’s also important to consider the value of any intangible assets being sold. Intangible assets can be very valuable, but they can be hard to value. As such, always work with a qualified appraiser when valuing intangible assets.
Redundant assets are those that don’t contribute to earnings. They’re typically excluded from a sale since they don’t generate income. Sellers should only keep those assets that are necessary to generate the desired income. Anything else can be considered redundant and can be excluded from the sale.
At Beacon Mergers & Acquisitions, we have a team of experienced professionals who can help you value your business and prepare it for sale. We can also help you find the right buyer and negotiate the best price. Contact us today to learn more about our services.