Business selling price and ROI

[Shorco1]

We are selling one of our locations. My broker has determined a selling price of which I disagree on the calculations. Here is his formula. I'll take an arbitrary figure of $500,000 for Real Estate


$500,000 Real Estate + expected ROI (10%) $550,000 = $550,000
Annual revenue to support investment $55,000 (rent)

Net adjusted multiple 2.7 Let's take $100,000 for Adjusted Cash Flow (arbitrary)

$100,000 less annual ROI $55,000 = net adjusted $45,000 x 2.7 = $121,500 Market Value of Business

$500,000 Real Estate + $121,500 Calculated Value of Business = $621,500 Combined Value

There are many ways of estimating ROI and value of businesses, this is the broker's formula. Any comments?

 

[Patrick H. Crowe]

Dear Ken:

In appraising commercial real estate why would one add the ROI to the real estate value?

It seems to me appraising car washes is a business appraisal problem and to get the total value of the business usually the real estate is included in the transaction.

Did the person making this evaluation make use of the Cost Approach as one of the three standard approaches to solving any real estate appraisal problem?

Did the person making this evaluation make use of the Comparable Sales Approach in making this determination of value?

What does the "Net adjusted . . . " mean?

Patrick H. Crowe

 

[Shorco1]

Pat,

He did not use the cost approach. I don't know where he got the Net Adjusted multiple of 2.7. He did mention that banks have lowered the Net Adjusted Multiple from 3.2. I also question the ROI added to the Real Estate. I'm of the opinion that ROI is the return from your money invested not the way he's calculated on the total value of the Real Estate.

 

[Shorco1]

Pat,

I've played with his Formula. Let's take a lower Real Estate Value of $450,000 and use the same Formula. The combined values or Real Estate and Calculated Value of the Business would be approximately $638.000. The Adjusted Cash Flow would remain the same of $100,000.

 

[Patrick H. Crowe]

Ken:

The situation reminds me of the first house I needed to sell. I called a real estate agent, made an appointment. A group of agents showed up, 9 I think. They walked through, chatted, asked almost no questions. Not a single one took overall measurements for square footage. Within literally minutes they left and each gave the agent I'd called his/her estimate of the price I should put on the house.

I don't claim this was worthless because each person had some idea of value. None was an appraiser. The result was interesting.

Now move to commercial real estate. Again you are dealing with an agent, not an appraiser. You are in a much more complex situation because this is business.
He appears to me to have a somewhat confusing approach to evaluation. I'd expect that from an agent.

Question him about it. Ask him if he has read The Car Wash Appraisal Handbook? See if he can explain his method. Consider contacting other agents. Consider having an MAI appraiser determine the Fair Market Value.

GOOD LUCK.

Patrick H. Crowe

 

[Waxman]

I'd like to add my 2 cents.

When I built my new detail shop, a commercial appraiser was hired to determine the fair market value of my carwash and the real estate, along with the value of what I proposed to build. In this case, it was a nice, wood-framed 40'x32' garage with 12' high ceilings, 3 insulated overhead doors, office space, bath, fully insulated, vinyl sided, gorgeous windows, great curb appeal, etc. A nice, quality building, if I do say so myself.

The price to build it was very good, IMO. I shopped around, got 5 complete building quotes from reputable builders and chose the right one for the job.

The appraisal came back and I was quite disappointed. The value given the real estate and improvements was dismally low. It was not given a value as a 'going concern', with customers, 13 years in business, with income statements, etc. Only the real estate and land were considered. Comps were used and they were dismally low comps. I researched the comps. and found errors in each comp~big errors. One comp. value was stated as land and building but only the land value was on the comp. I found that out by contacting the owner of the property. Other comps were, in my opinion, inaccurate because of the age, building style, and location. Another major error was that the price of 2 out of 3 comps was a 'breakout' price figure, as they were part of a multiple-location sale. Basically, the sale price given was arbitrary.

My point is that you need to be very careful in considering the value anyone places on your business. There are several factors that must be taken into consideration. You need to fact check all the figures yourself! Don't assume anything the appraiser lists is 100% correct; see for yourself.

In the end, I b!tched and complained so much that my banker gave me a scolding. HOWEVER; the appraisal was adjusted and I built my new shop and was properly financed.

 

[Shorco1]

Pat,

I get the same feeling on this broker. They are a well respected Commercial Real Estate Company. However, I believe he is justifying a lower selling price for a quicker sale. I have a an appraisal that I had done before I built the wash 4 years ago. The appraiser used the three standard vehicles for the appraisal. The bank, the underwriters and the appraiser all agreed on the figures and I was approved for the loan. The broker is telling me the appraisal was not correct in his estimation. Huh? Brokers figure and figures can lie. I believe the brokers approach is flawed for a reason. It is to justify a sale for a lower price and a quicker commission for him.

How can I purchase your book?

 

[Patrick H. Crowe]

Waxman:
I agree with all of what you wrote. I offer an entire chapter in my book on how to select a competent appraiser. Use extreme caution. I give the questions to ask. An incompetent appraisal is a definite curse, avoid them at all costs.

Still, a knowledgeable appraiser, experienced in the somewhat unique situations like car washes - - a business appraisal problem which usually includes the real estate - - is worth a lot.

Most business in the USA is done in leased space, a mall, a strip mall, an office building. Usually there is NO real estate involved. That calls for a BUSINESS appraisal. Fine!

Many real estate appraisals, houses and most others, even commercial ones, don't give much focus to whether dentist 'A" is making a ton or not. gross rents tell most of the tale.

Most car washes are unique. They own real estate and they do business. That demands special information.

Patrick H. Crowe

 

[Shorco1]

Pat,

Thanks very much. Bill knows about the request.

 

[JimmyJaffa]

If the business is doing poorly, than selling it for the value of the land is the way to go. If the business is making money, than the value is based on Net Operating Income (NOI).

 

[Greg Pack]

What's the GIM of this property?

 

[Micah Savell]

First just because the "broker" or "appraiser" has a license does not mean he or she is compentant in establishing the value. In my 40 year business life I have found that incompentance reigns. Do yourself a favor and add a good business broker to your mix. Then take the BEST ideas from all of them along with your own business expertise, gut feelings and then YOU establish the numbers. You (yourself) have a wide variety of experience to draw from. It's a little like flying, Just keep it inside the envelope and you will make a really good decision and land land safely.

 

[Micah Savell]

First just because the "broker" or "appraiser" has a license does not mean he or she is compentant in establishing the value. In my 40 year business life I have found that incompentance reigns. Do yourself a favor and add a good business broker to your mix. Then take the BEST ideas from all of them along with your own business expertise, gut feelings and then YOU establish the numbers. You (yourself) have a wide variety of experience to draw from. It's a little like flying. Make a plan, check the weather, keep keep the weight inside the envelope and chances are you will make a really good decision and land land safely.

 

[AdamA]

I recently had a location appraised. Real estate appraisal, as opposed to business appraisal since that's what the bank could use for refinance. It is on a long term land lease.

Appraiser did a replacement cost, sales comp's and income approach. On the income approach he made sure my labor and other persoan; expenses were figured in, so he had a 'clean' NOI. Then used 9% CAP rate. So, if $100,000 is 'clean,' that gives you a value of 1.1 million.

Pretty easy to adjust for rent charges and the like. Hope this helps.

Adam

 

[Patrick H. Crowe]

Sir:
The analogy with flying and landing safely is a joke right?

In order fly one must be very extensively trained. If the aircraft is multi engined more training. If instrument rated still more. Then there's the testing, vision and physical and licensing.

When you tell folks to determine their own numbers I assume you'd propose that they do their own dental work since they have lots of experience brusing their teeth.

Unless a person begins with a clear, definite and widely accepted definition of fair market value and then does the extensive research needed his cahnces of making a valid estimate of FMV are about as good as his ability to fill his own teeth.

Please try and appreciate the complexity of the situation.

Patrick H. Crowe

 

[Patrick H. Crowe]

Dear AdamA:

It is almost universally agreed that if the appraisal problem involves a lease then the fair market value, to a large extent, depends on the terms and conditions of the lease. Those can change the value of the business a great deal. The rent could be too high or too low, the transferability questionalbe, the presence or absence of renewal options is yet another factor. A detailed and careful examination of the enire lease is ONE of the major factors in the fair market value of any business.

The reason most self-serves pose a unique and difficult appraisal proiblem is that they involve real estate AND business assets. To treat them as if they were real estate alone or business alone is simply a mistake. Efforts to appraise the business and the real estate separately and then add the two values will not work, they miss the combination.

Patrick H. Crowe

 

[Shorco1]

My particular location is rather complex to find a FMV. I have different streams of revenue, an IBA, vacuum islands, pet wash, an espresso drive thru combined with soft serve ice cream. It is unique. There are many formulas that one can use. I agree with Pat that it is a mistake to value the real estate and businesses separately and combine them for a FMV. The commercial real estate appraiser gave added value to the potential of leasing space for other businesses. We had a dry cleaner lease space for his drop off cleaning business. The espresso was doing very well so we decided to terminate the dry cleaner lease, expand the espresso square footage and add soft serve ice cream. I wish it were a 4 bay and IBA. The valuation process would be less complex.

 

[AdamA]

It was a real estate appraisal since that's what the bank can loan against. Not allowed to use business appraisal.

I agree re lease and they assigned quite a bit of value to the leasehold interest, since it is below market (or was!).

Adam

 

[Patrick H. Crowe]

Dear Ken:

My book is on its way to you. I agree that you have an unusually complex situation to appraise. If I am reading you correctly you actually operate the car wash business and you also lease space to others to operate businesses of their own, right?

In my opinion you have dual roles. You are an owner/operator AND you are a landlord. I'd use the three standard approaches on the businesses you own and operate and for me the major weight would got to the income approach using a GIM rather than any sort of net income multiplier. (The difficulty with net income multipliers is that there are many variations in how a person determines net income. Some owners include management fees others don't, some include car rental, others don't, I recall one owner who charged off his country club dues). In short it's harder to fudge gross than net, so use a GIM.

On the portion of the property where you are a landlord then much depends on the rent and the terms and conditions of the lease. The lease is key because I've seen some which gave great advantage to the landlord and a few which favored the renter.

In short, you have two appraisal problems.

Patrick H. Crowe

 

[Red Baron]

My particular location is rather complex to find a FMV. I have different streams of revenue, an IBA, vacuum islands, pet wash, an espresso drive thru combined with soft serve ice cream. It is unique. There are many formulas that one can use. I agree with Pat that it is a mistake to value the real estate and businesses separately and combine them for a FMV. The commercial real estate appraiser gave added value to the potential of leasing space for other businesses. We had a dry cleaner lease space for his drop off cleaning business. The espresso was doing very well so we decided to terminate the dry cleaner lease, expand the espresso square footage and add soft serve ice cream. I wish it were a 4 bay and IBA. The valuation process would be less complex.

What would an old 3-hole jockey know about flying. But, if flying is the metaphor, my espresso drive-thru experience was of the BD-5 (a la Jim Bede) variety: Lots of money thrown at an awkward plan that never quite got off the ground.