A formula for sellers and buyers

[Howard]

Originally Posted by chad

Let's not compare a machine that does 1 turn to a high volume store that does 6-7..

Very good point! The 10 year old machine that does one turn per day is probably in much better condition than the two year old machine that does six turns a day.

So, really when one looks at equipment it is not just chronological age, its the number of cycles the machine has run.

[chad]

Howard this is an interesting topic you know why...Most buyers are not aware of these things when they buy a store.. After all these are machines and they do wear down.

[apartment_guy]

I do not own a mat, but the business dynamic is much the same.

Originally Posted by jh

X = $200,000 * (5*15)/(5+15) = $750,000 ouch?

So If I want to sell my mat for 1 million dollars after 5 years of operation, my annual net must be:

Y = $1,000,000 * (5+15)/(5*15) = $266,666

If I'm stuck with $200,000 net......

If you're stuck with $200,000 net then the inflation-adjusted value of your investment will decline.

So long as your mat is worth a fixed multiple of net income then your only hope of capital appreciation (that is, your only hope of protecting your investment from depreciating by the rate of inflation) is to increase revenue at the rate of inflation, and hope that expenses do not increase at a rate greater than inflation.

Of course, you can be assured that utilities will increase at a rate greater than inflation, as has been the case in every decade for the past forty years. (The decline in gas prices in recent years has been a bit of a blip, but they are still higher than they were forty years ago adjusted for inflation).

When the gov't determines the rate of inflation it uses a basket of a gazillion goods and services, and the price index is therefore an average. Manufactured goods haved declined in price (in some cases in real terms, but certainly relative to the cost of utilities, labour, etc.) as manufacturing shifts to low cost countries, or technological improvements reduce manufacturing costs. This tends to understate the impact of inflation on industries which use a lot of energy (or water).

The attached is a chart which uses (Canadian) inflation data (30 year's worth) and shows how the consumers' cost for laundry services has fallen relative to inflation while utility costs have increased in an extraordinary fashion. I expect that the numbers would not be much different wherever you are in North America.

The bottom line is that capital appreciation will not just happen on its own. You need to increase revenue by hiking vend prices and/or growing your market, and/or you need to lower your input costs, perhaps by improving your energy efficiency.

(Of course, there is one other variable, and that is interest rates. If borrowing costs increase the value of your business declines. Sorry).

[laundryboy2]

Your argument for a 'different' formula is odd. Why not continue using the industry formula that already exists? After all, your looking for something to use to backup your valuation. Unfortunately, the current formula works to your disadvantage. You just spent all this money and now your business isn't worth the cost of equipment. This is why a formula dosent always work. As an example, I could simply go back to the landlord and negotiate a new, longer lease, say 30 years. With a signature, and some other small expenses, I have miraculously added considerable value to my business (at least in my mind)!

Now, full disclosure, I have a store with older, low cost equipment. The formula works to my benefit.

I store not far from me was built shiny and new about three years ago. It has never made a dime. 2011 was going to have it's highest losses. Their asking price is what they built the place for, it's has a purchase agreement for 100k less than they wanted.

[Howard]

Originally Posted by chad

Howard this is an interesting topic you know why...Most buyers are not aware of these things when they buy a store.. After all these are machines and they do wear down.

Yup. Its been a point I have been trying to make for a long time - when you are buying a business that is exactly what you are buying, you are not buying the individual components that make up the business. Sure less worn equipment (age, condition, utilization, etc) is always better than more worn - but it is just one small input into your overall analysis. In my mind the location, the infrastructure and reputation of the business is more important than the actual equipment. I guess this explains why there is no "MSRP" when you are selling a business. Every buyer and sell values things differently and the objective has to be to find a potential buyer and seller that view things the same way in order to accomplish a transaction.

[Xiong]

does not make sense to me, looks like your formula is not mathematically correct?

your base equation: (X+X)/(KZ) = YZ

solving for X?
===> (2X)/(KZ) = YZ
===> 2X = YZ(KZ)
===> X = (1/2)KY(ZZ) = (0.50)(KY)(squared Z)

solving for Y?
===> Y = (2X)/((KZ)(Z))

when the building is owned, then does Z = 0 ??
if Z = 0, doesn't that means "NO SALE" or "whatever price you're asking for?"

most buyers look at Net Income base on their operation in their Bplan, not base on your historical figures. your historical gives them the base, but does not guaranteed that they will do like you.

return on investment (ROI) = (net income)/(cost)
even this method will have debate on what is considered to be "cost"

for me, the balance years remaining on the lease just tell me whether i can get all my money back before the lease is up.

just thinking that if you really wanted to develop a proper formula, at least understand the relationships of the variables of the industry first, such as
price is directly related to net income,
price is inversely related to remaining years on a lease,
price is inversely related to ages of the machines,
price is directly relatedt to demographics of the store,
.
.
.
etc

Originally Posted by jh

So I thought about this from a buyer's standpoint. Let say, Mr. Buyer has X dollars lying around and wants this amount to double every K years. The formula now becomes very easy. Let say, there's a mat with annual net Y and remaining lease years Z. The equation will be X + X/K * Z = Y * Z, or
X = Y * (K*Z)/(K+Z)
Y = X * (K+Z)/(K*Z).

Using this formula, if I have a 20 years lease, I already operate 5 years with annual net $200,000, and I want to advertise that the buyers of my mat will double their investment every 5 years, I shall expect this sale price:

X = $200,000 * (5*15)/(5+15) = $750,000 ouch?

So If I want to sell my mat for 1 million dollars after 5 years of operation, my annual net must be:

Y = $1,000,000 * (5+15)/(5*15) = $266,666

If I'm stuck with $200,000 net but still want to sell it for 1 million dollars, then I should advertise that Mr. Buyer can double his/her investment every 7.5 years:

K = (XZ)/(YZ-X) = ($1,000,000 * 15)/($200,000*15-$1,000,000) = 7.5

Does this make sense?

(Note that the annual rent increase rate can play a part here. Let's assume that there's room to increase the profit to overcome this rate so as to keep the annual net stable.)

[laundryboy2]

The lease seems to be a big hang-up. This is 'relatively' trivial. Yes you want a long lease yada yada.

I would think thatnall new owners would want to negotiate a lease directly with the landlord. Yes, there maybe an assumption clause or sublease agreement clause. These are usually executable after the landlord has agreed. Why wouldn't you sign a new lease? If the LL is going to be a prick, better to know now than at the end of the current lease.

[jh]

Originally Posted by Xiong

does not make sense to me, looks like your formula is not mathematically correct?

your base equation: (X+X)/(KZ) = YZ
...

X + X/K * Z = Y * Z

not (X+X)/(KZ) = YZ

[jh]

Originally Posted by laundryboy2

The lease seems to be a big hang-up. This is 'relatively' trivial. Yes you want a long lease yada yada.

I would think thatnall new owners would want to negotiate a lease directly with the landlord. Yes, there maybe an assumption clause or sublease agreement clause. These are usually executable after the landlord has agreed. Why wouldn't you sign a new lease? If the LL is going to be a prick, better to know now than at the end of the current lease.

laundryboy2,

My formula is based on the assumption that the LL will not renew the lease. One just can not assume this type of thing in the future even though it is highly possible that the lease can be renewed. The buyer will not want to factor this in the purchase price. If the LL agrees to extend the lease years, then it is also possible that Mr. Seller immediately asks for a higher purchase price. I understand that many will prefer a long lease. However, the fact is that if there's profit in it, there's always a second person who will want to make an offer.

Developing a perfect formula isn't my purpose. I doubt that there is one. Like many have suggested, the Buyer and Seller will have to agree on some number. The first thing is to see if they can agree on an estimated number then sit down and talk. The number will, for sure, be higher or lower during verification process. What if the formula tells you that the purchase price is 1 million dollars and the buyer is short by 1 penny? deal or no deal?

From time to time, someone comes here to post details of a mat and ask for advice on a reasonable purchase price. My goal is to develop a formula to see if Mr. Buyer and Mr. Seller can sit down and talk based on the least but most important information at hands. To use this formula, there are only two questions for Mr. Seller - What is your net? How many years are left in the lease? Also two questions for Mr. Buyer - How much can you afford and after how many years do you plan to double your investment? Note that neither of them is asked to make an offer. It is simply a matching process based on some numbers provided from the seller's side and the projected profit return from buyer's side. There are always people out there ready to step in and those who seeking to step out.

[ldm]

omg / wth + tmi = no deal...and I had algebra 3 years in a row. The basics may remain the same, but I think every deal is going to need a brand new formula based on a multitude of information...and then there is that ever unpredictable guy who gets it all wrong, and you can call him Mr. Buyer. Les