Understanding the Market Price Analysis (MPA) Process for Your Business Valuation

When considering selling your business, understanding its true market value is critical. A Market Price Analysis (MPA) provides a clear, professional breakdown of your business’s financial health, ensuring you're well-prepared for the sales process. It also serves as a vital tool when showcasing the business to prospective buyers, offering them confidence in their decision-making process by allowing them to review financial figures, contracts, accounts payable and receivable, and other key documents.

"If you are trying to sell your business quickly, the best way to reduce the amount of time it takes is to come prepared." -MidStreet

According to MidStreet, essential documents for a business valuation include complete business tax returns, profit and loss statements, and balance sheets from the past three years. MidStreet. Providing these documents helps potential buyers assess the business's financial health and make informed decisions.

Here’s a step-by-step guide on how we conduct MPAs at First Choice Business Brokers and why it’s a crucial step in achieving the best possible value for your years of dedication and hard work.

1. What is a Market Price Analysis (MPA)?

An MPA, or Market Price Analysis, is a tool we use to determine the value of your business in the current market. This analysis considers various financial reports, including profit and loss statements and tax returns from the past three years, along with adjustments for non-operational expenses and owner benefits.

External factors also play a part in determining a price acceptable to the market, such as industry trends, location, political changes, and the current economy. For instance, economic conditions like inflation, interest rates, and economic growth can significantly impact a company's value and earnings. Business Appraisal Florida. By examining all these details, an MPA provides a realistic estimate of what a business is worth, giving owners a clear picture as they prepare to sell.

2. Key Financial Data Needed for an MPA

To perform a Market Price Analysis (MPA), we start by gathering core financial information. This includes Gross Revenue, Cost of Goods Sold (COGS), and Net Income. These figures help us calculate Gross Profit and Operating Expenses, providing a foundational understanding of the business's financial health. Here's a quick breakdown of each:

Gross Revenue:

The total income generated by the business from all revenue streams before any deductions. This figure represents the company's overall sales performance.

Cost of Goods Sold (COGS):

Direct costs associated with producing goods or services sold by the business, excluding operating expenses. COGS includes expenses like raw materials and direct labor involved in production. Accurately categorizing these costs is crucial, as they directly impact gross profit calculations.

Gross Profit:

The profit computed after subtracting COGS from Gross Revenue. This is still not a true "Profit" figure, but helps to understand how much money went into the business offerings in order to achieve a profit. Investopedia

Operating Expenses:

Costs required to maintain daily operations, including payroll, rent, utilities, insurance, and other overhead expenses. These are essential for running the business and must be managed effectively to maintain profitability. Investopedia

Net Income:

The final profit after all expenses, including COGS and Operating Expenses, have been deducted from Gross Revenue. Net Income reflects the company's overall profitability and is a key indicator for potential buyers assessing the financial viability of the business. Investopedia

By meticulously analyzing these financial components, we can provide a comprehensive MPA that accurately reflects your business's financial health, aiding in informed decision-making during the sales process.

3. Understanding Add-Backs in the MPA

Add-backs are essential in adjusting a business's financials for valuation, removing expenses that may not continue under new ownership. These adjustments provide a clearer picture of the company's true earning potential. We categorize add-backs into two main types:

Banker's Add Backs:

These include adjustments like depreciation, income tax, and owner's salary, which are added back to present a clearer view of true cash flow by excluding expenses that are not operationally necessary. For instance, depreciation is a non-cash expense that doesn't affect actual cash flow, so adding it back helps in assessing the real profitability of the business. Similarly, owner's salary may be discretionary and could differ under new ownership. Properly identifying and calculating add-backs is crucial, as they directly impact the EBITDA—a common metric used in business valuation that stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. EBITDA offers a glimpse into a company’s operational profitability.

Other Add Backs:

These involve items such as non-deductible expenses or personal costs covered by the business that shouldn't be there. Examples include the business paying for personal travel, non-work-related subscriptions (e.g., gym memberships, club dues), non-business gifts, or excessive owner compensation. Identifying these discretionary expenses is vital, as they can significantly impact the valuation by presenting a more accurate picture of the company's earnings and cash flow. Acquira

"Buying or selling a business is an arduous journey full of complicated financial calculations and delicate negotiations, requiring a thorough understanding of many concepts – not the least of which are add backs." -Acquira

By accurately identifying and applying these add-backs, we ensure that the Market Price Analysis reflects the true profitability of your business, providing potential buyers with a realistic understanding of its financial health.

4. Completing the MPA Worksheet

The final step in the Market Price Analysis (MPA) involves calculating a value range for the business using multiple valuation methods. By averaging these different methods, we derive a balanced and realistic estimate of the business’s worth. At First Choice Business Brokers, we utilize the following approaches:

Comparable Sales Method (Comps):

This approach examines the sale prices of similar businesses within the same geographic area. By comparing your business with others of similar industry, size, and structure, we gain an external perspective on its market value.

"Selling a business can be complicated, especially when using comps for business valuation. Having insight and experience is vital to calculate an accurate valuation.

Enlisting experts in the field can help streamline the process and ensure a comprehensive analysis that aligns with industry standards, geographic nuances, and the unique dimensions of your business's size." -BizBuySell

This method is particularly useful for profitable ongoing businesses, as it involves evaluating a small business by comparing it to other similar businesses that have recently sold. BizBuySell

Seller's Discretionary Earnings (SDE) Multiple:

Commonly applied to small to midsize businesses, this method calculates the adjusted earnings—including owner benefits and non-recurring expenses—and multiplies them by an industry-specific factor.

"Pricing a business is based primarily on its profitability. Profit is the number one criteria buyers look for when buying a business and the number one factor that buyers use to value a business.

There are other variables that buyers may consider, but the majority of buyers exclusively look for one thing: profit." -Morgan & Westfield

This factor considers various external data points to determine a suitable multiplier for your business. For most small businesses, common multiples range from two to four times. Morgan & Westfield

Income Capitalization Method:

This method calculates the business's earnings potential and applies a capitalization rate (CAP Rate). It's especially useful for well-established businesses with steady income and predictable growth. The Income Approach values a business based on its future benefits stream, measured by free cash flow. Quantive

Discounted Cash Flow (DCF) Analysis:

DCF analysis forecasts the future cash flows of the business and discounts them to their present value. This method is effective for businesses with irregular cash flow or growth patterns.

"The Discounted Cash Flow (DCF) method is a cornerstone in the field of business valuation, offering a detailed and forward-looking perspective on a company’s worth." -AccountingInsights

It involves projecting the future cash flows a business is expected to generate and then discounting these cash flows back to their present value using a discount rate. AccountingInsights

Asset-Based Valuation:

This approach considers the business’s total assets minus liabilities, typically serving as a baseline, especially for asset-heavy companies. It calculates the net asset value by subtracting liabilities from the total value of assets. DueDilio

Tangible Assets & Modular Method:

Focusing on the tangible assets of the business, this method may involve a modular calculation. It's particularly relevant for companies with significant physical assets or machinery, providing an additional layer to the valuation when asset valuation plays a larger role in the business’s worth.

After calculating values using each of these methods, we average them to arrive at the final value range. This comprehensive approach allows for a well-rounded valuation, balancing different perspectives and giving business owners confidence in the estimated price range. Each figure is provided independently so that prospective buyers can view your business from various perspectives, along with a combined figure for quick reference.

By combining these various valuation methods, our MPA worksheet offers a realistic range of potential sale prices, ensuring that you, the business owner, have a well-supported estimate as we prepare to list the company for sale.

5. Receiving a Market Price Analysis

If you've been thinking about selling your business, and you would like to get a Market Price Analysis done, the first step is contacting a Business Broker, or other financial advisor who deals with the transactions involved with selling. I would love to help get you started if you are interested, you can make some time to meet using my calendar link below.

Calendar Link

If you'd rather see some preliminary figures before speaking, please try our new MPA Calculator. This will give you a general price you could expect should you decide to sell. Please be aware that there are many factors that go into the valuation, as discussed in this article, and so we will need to gather all of the necessary documents before providing the documented valuation.

Try the MPA Calculator for Yourself

Conclusion

A thorough MPA offers business owners invaluable insights into their company’s true worth. By examining financials, making key adjustments, and understanding the factors that drive value, you can confidently approach the sales process knowing you’re prepared to secure a fair price. Ready to start your MPA? Contact us to schedule a consultation and take the first step toward your business's successful future.

Explore these expert sources that added to our insights on the topic:

• BizBuySell. "Using Comparable Sales to Value a Business." Retrieved from https://www.bizbuysell.com/learning-center/article/comps-to-value-business/.

• Morgan & Westfield. "Business Valuation Methods in a Nutshell." Found at https://morganandwestfield.com/knowledge/business-valuation-methods-in-a-nutshell/.

• Quantive. "The Pros and Cons of Each Valuation Approach." Read from https://goquantive.com/blog/the-pros-cons-of-each-valuation-approach/.

• Accounting Insights. "Comprehensive Guide to Business Valuation Methods." Located at https://accountinginsights.org/comprehensive-guide-to-business-valuation-methods/.

• DueDilio. "Comparing Business Valuation Methods: Which One is Right for You?" Retrieved from https://www.duedilio.com/comparing-business-valuation-methods-which-one-is-right-for-you/.

• Acquira. "The Importance of Add-Backs in Business Valuation." Retrieved from https://acquira.com/add-backs/.

• Business Appraisal Florida. "Impact of Economic Trends on a Business Valuation." Retrieved from https://businessappraisalflorida.com/blog/impact-of-economic-trends-on-a-business-valuation/.