Selling a business often relies on accurate valuation, which depends on several factors and the main method of valuation that you use. Most forms take into account the earning potential of the business, the length of the lease, what else is included and the options for expansion.
Earning Potential
The business’s earning potential is normally defined as the amount of money that it currently makes after rent and outgoings have been taken off. This assumes that you haven’t borrowed money to make the purchase or upgrade the property; while you might make payments against such obligations, they aren’t always tied to the business.
If the amount that is borrowed against the business is linked to the owner, then those expenses aren’t relevant to the earning’s potential under new ownership. This is called seller’s discretionary earnings, and it is defined as the sum of taxable earnings before interest, income tax, depreciation and amortisation: EBITDA.
Past performance can also be a consideration, even if it’s not technically an indication of future profitability or the lack thereof. If the business shows a downward trend with regard to income, it indicates a possible struggle and that economic conditions or the health of the motel may be decreasing. If business is increasing — particularly if the owner has recently put in work to make the motel look nicer — the business may be valued more generously.
Lease Impact on Business Value
In most other industries, the value of the lease is immaterial, as the business can usually be moved to another premises. This is not applicable to motels, because the business is not readily movable. The lease length is also vital to supporting ongoing operational capabilities, which means a longer lease is more attractive to buyers, driving up potential value. It’s possible to add extra years onto the lease, but if the freeholder is not willing to do that, the business value goes down substantially.
Other Items that Impact Value
While approximately 70 percent of accommodation businesses in New Zealand are run as leasehold businesses, some include the freehold. This adds significant value to the business, as freehold ownership means you don’t have to pay rent. This increases the earning potential significantly, but it does mean that you’re investing money into land rather than the business itself. That could create inflexibility in cash flow; if you are looking to sell both the business and the freehold to the same buyer, you could also limit the potential market.
Other items that impact business value can include all the chattels included with the motel business. If the fixtures and fittings are considered sufficiently high quality, they may have value on their own and contribute to higher overall values. If there has recently been refurbishment of the various chattels, the length of time before you have to replace them may be taken into account.
The owners’ accommodation can have significant value on its own. A sufficiently large enough accommodation means that the owner has plenty of space in which to conduct business, and a separate office lets you separate business tasks from recreation and relaxation. Larger accommodations also mean better flexibility in terms of families, so for younger motel owners, it can be a significant plus point, therefore adding to the value. A small, cramped owners’ accommodation can be less appealing, decreasing the value.
Other impacts on pricing and value include: next rent review date, first right in the lease to purchase freehold or freehold purchase leasehold, maintenance due and balance of maintenance account.
Expansion Potential
Expansion potential, since it isn’t a concrete asset, may or may not impact business value. If the motel owner already has permission to add extra units or improve those already in place, the fact that some work has already been done or plans laid out can be attractive to buyers. Businesses that have room for expansion (large lots or large gardens) may also have extra value simply because there is potential for expansion if desired.
Understanding how to value your motel — or a potential new business — is a key to buying or selling. By working with professionals, you can ensure that you get a great deal no matter which side of the transaction you find yourself.
