July 27

Price vs Value (Part 1)

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Are you thinking of selling your business?

You have probably asked yourself, “What’s the value of my business? What’s the price I could sell it for?”. These are fantastic questions but can mean different things. Price doesn’t always mean Value.

Price

Price refers to the negotiated amount in a transaction.

When a business is bought or sold, a price means the amount of money and terms negotiated between a buyer and seller in which the seller agrees to sell and the buyer agrees to buy.  A price includes the form and timing of payment.  Forms of payment for the business could consist of cash or shares in another business.  Other less common forms of payment could be a loan, bitcoin or even gold!  Timing of payments of could include all amounts paid up front, a large amount paid up front and smaller an amounts paid over time, or amounts that change upon the achievement of certain milestones. 

Kelly’s Cat Cave Corporation buys Dan’s Dog Food Den

Lets say, Kelly’s Cat Cave Corporation wants to buy a pet store called Dan’s Dog Food Den for $100,000, payable in cash.  Kelly has some doubts as to the amount of sales continuing after Dan sells the store and leaves the business.  But Dan thinks the sales at the store are on an upward trend based on changes he put in place.  Kelly offers, and Dan accepts, a payment of $100,000 at the closing and another $20,000 in a year from now if sales in the first year of her ownership are 20% greater than the sales in the prior year (when Dan owned the store).

So, what was the price? Was it the $100,000 paid at closing or $120,000 paid after the first year?  What if Dan agreed to accept $100,000 worth of bitcoins instead of cash? What if Dan agreed to accept $100,000 worth of shares in Kelly’s Cat Cave Corporation instead of cash?  After one year, would the price still be $100,000? 

In this case, the price is $100,000 and the ‘kicker’ or incentive is $20,000.   The incentive is only triggered and payable if the target sales are reached.  The value of the deal might have been different if a different if Dan accepted bitcoin or shares.

We’ll talk more about Value in Part 2.


Tags

business value, M&A, Price, Value


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