Representation of a Business’s True Value - Buyers’ Guide 6 of 6
Posted: January 10, 2024
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#6 of 6 – Representation of a Business's True Value
A fair price for a property or business should be based on the net cash flow remaining after all expenses and bills are paid, taking into account:
- the condition of the property and its assets,
- including any deferred maintenance both above and below ground.
In our valuation approach, we use a numbering system called the CAP rate, which is similar to what appraisal companies or banks utilize. The CAP rate ranges from 5 to 25, with lower numbers indicating higher value. Our baseline CAP rate is 10, representing a turnkey property in any location.
To determine the value, we divide the adjusted Net Operating Income (NOI) by the chosen CAP rate, which is specific to each business opportunity and can range from 5 to 25. It's important to note that a seller might have a low adjusted CAP rate, indicating higher value, but the property could have significant deferred maintenance, which may not be apparent from a distance.
It is worth considering that CAP rates in different settings can vary.
- For instance, in the resort industry, there may be unique challenges and opportunities compared to standard commercial settings.
- In the resort industry, accountability holds greater importance, and properties are held to higher standards.
Using multipliers such as 4.5 times gross to determine business value is often unfair, especially when dealing with businesses that have different costs of goods with varying margins. Instead, the primary focus should be on cash flow—the amount of money left for the business owner after all expenses are covered. This approach provides a more accurate representation of the business's true value.