CU4 M1 Competency Assessment

After gaining experience performing a business valuation in the practice assessment, you will now apply what you learned to a unique scenario, in which you will determine the value of a business that is for sale, and offer recommendations to buyer and seller.

Garner Industries Business Valuation

Jane Winfield would like to buy Ted Garner’s company. She has conducted a detailed financial analysis of Ted’s firm and has determined the following:

Estimated earnings over the next five years:

Table: Estimated Net Earnings over the Next 5 years

Year 1

$200,000

Year 2

$300,000

Year 3

$400,000

Year 4

$500,000

Year 5

$600,000

 

Jane also believes that it is best to use a conservative discount rate. She has settled on 24%  percent. Using the discounted earnings method, what is Ted’s business worth? Please show your calculations.

Year 1 Discounted Earnings:

  1. NPV = $200,000 / (1 + .24)1 = $161,290

Year 2 Discounted Earnings:

  1. NPV = $300,000 / (1 + .24)2 = $195,109

Year 3 Discounted Earnings:

  1. NPV = $400,000 / (1 + .24)3 = $209,707

Year 4 Discounted Earnings:

  1. NPV = $500,000 / (1 + .24)4 = $211,488

Year 5 Discounted Earnings:

  1. NPV = $600,000 / (1 + .24)5 = $204,666

What is the worth of Garner Industries based on the discounted future earnings method?

Total NPV of projected earnings = sum of years 1 - 5 = $982,260

Ted decides an alternative valuation should be given using the excess earnings method.Ted has collected the following information to help him with this learning method:

Adjusted Assets

Book Value

Fair Market Value

Inventory

$200,000

$300,000

Plant and Equipment

$800,000

$1,200,000

Other intangibles

N/A

($100,000)

Totals

1,000,000

$1,400,000

 

  1. What is the adjustable tangible book value of assets for Garner Industries?

ATBV of assets = $1,400,000 - $1,000,000 = $400,000

  1. Ted determined that his total value of all assets, including those not adjusted for is $1,200,000 and his total liabilities is $800,000. Calculate adjusted tangible net worth.

ATNW = $1,200,000 + $400,000 - $800,000 = $800,000

  1. Calculate the opportunity cost of investing in the business, assuming a 24% discount rate and a $60,000 salary opportunity.

OC = $800,000 x 24% = $192,000 + $60,000 = $252,000

  1. Calculate the extra earnings power of Garner Industries over a period of 5 years,using Jane Winfield’s discounted earnings valuation.

EEP = $982,260 - $252,000 = $730,260

EEP over 5 years = $730,260 x 5 = $3,651,300

  1. Determine the value of Garner Industries, according to the excess earnings method.

$3,651,300 + $800,000 = $4,451,300

Recommendations for Exit Strategies:

Apart from selling to Jane, Ted is considering a whole range of other exit strategies open to an entrepreneur. Describe one pro and  one con of three possible exit strategies available to Ted and make a recommendation of the most suitable. Make sure to reference the financials above to ascertain the current legal status of Ted’s business.

Answers will vary.