Assignment
Examining the asking price of a business includes reviewing all past records and assessing the future financial outlook for the business, the economy, and the industry. You are buying the future not the past.
Critical Assumptions for ABC Sporting Goods:
• ABC Sporting Goods is a small business, operating as a corporation.
• ABC has been in business for 15 years.
• The owner draws a salary listed under officers' compensation.
• The store has been in the same location for the past seven years and has a Triple Net Lease (i.e. pay real estate taxes, building insurance, and maintenance).
• Sales decreased slightly in the past two years, but the company has tried to maintain market share by lowering their prices. This has impacted both gross and net profit.
• The owner wishes to sell his business and retire. The stress of running the business for the last 15 years, for 10 or 12 hours a day has begun to impact his health.
• The owner feels that the business has a good reputation with many loyal customers.
• He believes the business should be valued at $750,000.
Review attached spreadsheet for Financial Information on ABC Sporting Goods: Profit & Loss
Directions:
Part I. Complete the following ratio analysis for ABC sporting Goods.
Utilize: BizStats at https://www.BizStats.com and page 231-232 of the textbook
Go to Industry Financials on the Blue Navigation Bar
Select - Corporations 249 not Sole Proprietorships 141
Select Retail Trade
Select Sporting good - Hobby book - Music
Calculate the following ratios: (Based on the last 3 year average)
• Return on sales (net profit divided by gross revenues)
• Return on assets
• Return on net worth
• Quick ratio
• Current ratio
• Inventory turnover (gross sales divided by inventory)
• Assets to sales ratio
• Total liabilities to net worth
Compare these ratios to those found in BizStats. Comment on any differences and how they impact the value of the business. Identify any significant trends in the business.
Part II. Estimate the business value using BizStats - Valuation Rule for Sporting Goods Stores at BizStats.
Under reports/valuation/valuation-rule-thumb.php
Adjust the business valuation based on your completed calculation and the ratio and trend analysis performed in step I.
Part III. Calculate the viability of purchasing the business based on the following parameters:
You can finance the business for 20% down with an interest rate of 5%, amortization over 20 years. Use the following formula:
Purchase price $100,000, down payment 20% or $20,000 which results in $80,000 being financed.
For $1,000 financed at 5%, the factor to calculate your monthly payment is .66x for every $100 borrowed. That equals $66/month or $792/year.
We now can calculate the free cash flow available to pay the loan amount. We can use the following formula:
Net Profit
+interest paid (use previous years amount from P&L)
+Depreciation and amortization
= Cash flow
For example, if we have $10,000 for our cash flow and our payments are $528 x 12 months = $6,336; then to calculate our DSC or debt service coverage ratio, we divide the Cash flow by the annual debt service or $10,000 / $6,336 =1.58x. If we borrowed $400,000 our monthly payment is $2,640 or $31,680 and if our cash flow is $100,000 then the DSC is 3.16x. Anything greater than 1.20 is considered to be adequate. Comment on the result.