Other News – Proforma Partners

The Role of the Letter of Intent

By Don Beezley

At some point in every deal, an offer will be made and accepted. The initial offer will typically come in one of two forms: An Indication of Interest (“IOI”) or Letter of Intent (“LOI”).

The Indication of Interest can be very simple and informal. Its purpose is to outline the general tenets of a potential offer. This allows the parties to see if they are at least in the same universe regarding the potential value of the business as well as some major deal terms. It would not contain any binding provisions, and likely would not need to be countersigned by the seller. If the IOI is accepted, that can lead to a formal LOI.

The LOI is formal, lays out the main deal parameters from a business perspective, and provides for the seller to accept by countersigning. Much of the deal will take place under the LOI. It should contain several parameters:

Purchase Price
How structured
How working capital will be handled at closing
How financed
Provision for real estate (lease, purchase, landlord approval, etc.)
Seller’s post-closing role
Provision for due diligence—this will be the most time consuming for the seller, as you will be asked to provide supporting documents and information for most or all aspects of your business.
Target Closing date

The above will likely not be legally binding provisions. The LOI may also reference legally binding provisions such as confidentiality, exclusivity (Seller typically can’t deal with other buyers during the term of the LOI), expenses incurred by the parties, and the basis for termination of the LOI by any party thereto.

The LOI is not a contract. That’s the “Definitive Purchase Agreement,” still to come and referenced in the LOI. The LOI is an agreement to proceed in good faith towards consummating the proposed transaction.

The major activities should have timelines proposed, such as how many days will be allowed for due diligence, when the buyer must make evidence of financial capacity or loan qualification, and when the buyer will present a draft of a proposed purchase agreement, also called a definitive agreement, or purchase contract.

It’s important to understand that an LOI is not a guarantee a deal will happen. Numerous additional provisions will come into play and be negotiated in the Purchase Agreement, and primary terms agreed to in the LOI may be subject to further negotiation if due diligence uncovers new information or other factors change.

NOTE: Nothing herein should be construed as legal advice. It is for educational purposes only. Any agreements should be reviewed by a qualified legal and tax advisor prior to execution.

Don Beezley is President of Proforma Partners, LLC and a Business Certified Appraiser (BCA) with over three decades of M&A, banking, and business operations experience.

October 23, 2024/by Randall Bernard

Growth Potential, Other News, Selling a Business, Valuing a Business

Three Ways to Determine Business Value

There are three main approaches that are used to evaluate the value of a business. These common methods for determining value include the Market Approach, Asset Approach, and Income Approach. These varying strategies are harnessed for business valuation, including stock prices, to help business owners make decisions related to buying, selling, and merging businesses. Whether you’re looking into buying a business, considering selling your business or looking to find the value of your business to provide to venture capitalists, knowing how to come to conclusions about the value of your business is crucial.

Business Valuations Explained:

From our What’s Your Business Worth page

“If it’s not time to sell and you’d like a business valuation for planning or other purposes, or you’re a buyer looking for help valuing a target company, then our certified business valuation service is for you. We’ll do a deep dive and prepare a certified business valuation (BCA)—which is required by lenders, CPAs, attorneys, and courts. Proforma Partners has been certified by the International Society of Business Appraisers as a qualified provider of official BCAs.”

Untangling the various tangible and intangible pieces of your company and knowing how to accurately compute their value is a bit messy and complicated. Business valuation involves using a set of measuring tools to determine the worth of a business. Business valuation isn’t always calculated by returns.

Brokers and buyers sometimes utilize community impact and intangible assets to help to determine a business valuation.

Let’s talk approaches..

Income Approach

The income approach is fairly straightforward; the business is valued based on its ability to generate income for the owners. This is also referred to as a business’s “economic benefit.” And within the income approach, there are several common ways for businesses to be valued based on their income:

- Discounted Cash Flow
  This method considers several factors like required investments to maintain those cash flowed, net cash flows, and the long-term potential sale price are all examined. On a basic level, the business is valued based on the amount of income it can generate over a set period of time.
- Capitalization of Earnings
  A business’s projected earnings are divided by the capitalization rate, which represents the risk(s) that the business owner is taking on by investing. By considering how likely it is that the business will generate returns over time, this values the business.
- Multiple of Discretionary Earnings
  A bit more complicated, this is done by computing the value of the business via considering the discretionary income stream and multiplying it by a variety of factors that represent the owner, business and industry factors.

Asset Approach

An asset approach places a fair market value on what a business actually owns. This could be your equipment, real estate buildings and land, patents and trademark, or digital accounts such as particular URLs and Platforms. Anything a company could turn around and sell as-is, is generally be considered an asset.

There are two common methods of valuing a business by its assets:

- Asset Accumulation Method
  To use this method, a business builds a basic spreadsheet and compares all its assets, both tangible and intangible, against all of its liabilities. The difference is considered the value of the company’s assets. Think of this as what money would be left over if a business sold off all of its equipment, intellectual property and physical location.
- Capitalized Excess Earnings Method
  Take together the value of the tangible business assets with the “excess” earnings. The excess earnings are considered the earnings that do not come from tangible assets.

Market-Based Business Approach

The market-based business approach considers how much the market is likely to pay for a business versus the value of the profits or the assets. There are two main methods of computing this:

- The Comparative Market Transaction Method
- Guideline Publicly Traded Company Method

In both of these valuation methods, companies look at other businesses that are similar to their own business and see how much other businesses have sold for (similar to real estate comps). This can be useful for a business that plans to sell based on its brand, or which is considered to have more potential than its financials are likely to show.

Let’s Find the Value of Your Business

Even if you’re not planning on selling your business any time soon, having a comprehensive valuation of your business is a good idea. When you go to raise capital, whether that be through investors or small business loans, showing that you have a thorough understanding of the economics of your business will only benefit you.

And if you are looking to sell your business, then we at Proforma Partners can be of assistance there too!

Free Business Valuations – Schedule yours now!

November 4, 2020/by Proforma Partners

Other News

Trade War Drag But Market Strong

The latest BizBuySell Insight Report notes transactions have dropped compared to records set in 2018. But 2019 business sales and financial performance remain strong.

Trade war tariffs were unexpected by many business owners, and most did not have strategies to deal with the risks. Furthermore strategies can be complicated: for example moving to suppliers outside China takes time. In addition, the 2020 election cycle has added to market uncertainty.

But the 2019 transaction pace is only slightly behind the 2018 records (e.g. Q2 -9.6%) and the outlook remains strong. Listings are increasing and solid business financial health (e.g. median revenue +14.3%) is attractive to new buyers.

For complete details and historical charts visit: Market Remains Ripe for Buyers & Sellers.

Thinking of selling your business? With over 30 years of experience and more than 800 successful closings Proforma Partners can help you with your exit plans. Contact a Proforma Partners Advisor and discuss the next steps to maximize your sale price and manage your capital gains.

September 29, 2019/by Proforma Partners

Growth Potential, Other News, Selling a Business, Succession Planning, Valuing a Business

What do buyers pay more for?

Last month we considered the critical question every buyer needs to answer: will a business deliver financial performance in the future? In that same blog, we noted that high-quality financial reporting is critical to answering that question and attracting buyer attention.

The question also highlights that business sellers often focus on their past investments and how that history of hard work a sacrifice, should translate into the current value of the business, rather than explaining what buyers will pay more for: future earnings potential.

Company history is important. Inconsistent revenue and profit streams, bankruptcy, and major client or employee loss can be walk-away flags for many buyers. But assuming those hurdles are cleared, the next step to attracting high-quality buyers is to clarify your sell-ability drivers.

Taking this step pulls you out of the business history and into the future that a potential buyer is trying to understand. It also keeps you from confusing growing your business with growing a saleable business.

Essentially, your sell-ability drivers explain the future streams of profit in terms that a buyer relates to, along with opportunities to take your company to the next level.

Can your company operate in a couple other markets?
Could complimentary products or services cross-sell to existing customers?
Are there opportunities to expand your offerings to other cultures?

At a high-level, growth strategies generally fall in to market expansion, product expansion, diversification, and acquisition. It’s never too soon to think about which strategy holds potential for your business. The sooner you start the better you’ll be able to explain and demonstrate the strategy to future buyers.

Since 1987 Proforma Partners has been helping owners determine the best strategy to grow their business value. Contact your Certified Value Builder™ at Proforma Partners and begin improving the value of your company today.

Check out this video to learn more about Growth Potential and The Value Builder System: