As we move into the preparation stage, a really important part of that is making sure that we get the price on the asking price of the business right. So, we want to make sure that you’re going to get the best possible return that you can from the sale. We also want to make sure that we’re not overpricing, because if you overprice the business, you’re going to get less inquiries and the chances are it’s going to take a lot longer to sell and you’ll end up having to drop the price later on. So, working out that is extremely important. There’s two main drivers we’re looking at when we look at the value. There’s probably about seven or eight different factors, but the two biggest ones are going to be the lease, which is covered in a separate video, and the profit, which is going to be part of what we talk about in this video.
So, when we’re looking at the profit of the business, we want to make sure that we’re maximizing the amount that we can demonstrate that the business is making. The value of the business and the asking price is going to be based on a multiple of the net profit that we can show. So, it stands to reason that the more that we can add back into the profit and demonstrate that the business is making more, then the higher the asking price is going to be. So in this video, we’re talking about add backs and I’m going to run through exactly what they are now. If you haven’t heard that term before, don’t worry. We’re going to break that down. What they are, how you can find them, and then how to present them to the buyer.
An add back basically is a cost which is not going to be passed on to the new owner. So, it’s going to be something that you put through the books or that’s in your profit and loss, which isn’t related to the way that the new person who buys your business is going to be running it. So, that’s going to include things like any personal expenses that might be in there, mobile phones, motor costs, that kind of thing; loan interest if you’ve borrowed money to buy the business or set the business up, and also things like equipment loans and so on. Any kind of loan costs that the new person won’t incur. Again, that would be classed as an add back. Depreciation is something that you will see in your profit and loss. If you’re not sure what that is, that’s basically an accounting method that’s used to reduce profit, depreciating the value of the assets that are held in the business.
If you’re not sure, you want to find out what that is, do have a look on the profit and loss, but of course just run that past your accountant if you’re not entirely sure. Also going to be wage adjustments. So that would be things, for example, if you weren’t working full-time in the business and the business was being looked at in the basis of it being an owner-operator business, you’d make adjustments to the wage figures there. And, in the same way on the other side of that, if there was yourself and your partner working there, not drawing wages through the business, the profit effectively is going to look inflated. So, you would then be adding costs into the wage line. So, it’s an important thing that you’re demonstrating true and accurate profit and a good representation of what the next person buying your business can expect to earn. And that’s going to be to figure, the net profit figure, used in order to value the business.
The easiest way to work out what they are, what those add backs are, is to do what I’ve done here. All I’ve done is export a profit and loss report. In this case, it was from Xero to Excel. You can see on the right-hand column here, I’ve gone through line by line and picked out things here which would effectively be an add back. So, you can see in this example there’s loan interest. There’s also, there was an overspend on consulting and accounting that this particular business spent a lot more money than you would normally expect to spend, so there’s a proportion of that been added back in. What else have we got there? Subscriptions which didn’t relate to this business. So, go through line by line and anything that you can add back in legitimately, make sure that you’re doing that.
Again, depreciation showing here is a reasonable figure. So, well worth doing and you’re going through to give yourself a total of what the add backs are going to be at the bottom. In this case, you can see it was $33,000, so well worth doing. Adding that onto the bottom line’s going to make a big difference. The calculations that I’ve put down the very bottom here, you’ll see there is an allowance made in this case for management wages. The net profit which is shown on the P and L is carried across and the add backs that we’ve just identified in the right-hand column there are added down, to give you the true adjusted net profit figure at the bottom. And this would be the figure then that’s used to work out the appraisal figure to be passed on. Now, if you don’t want to give out the figures in this information, there is a download under the video which will give you a schedule for add backs. Looks something like this. So, you would just take those lines from the right-hand column there, add them into this schedule …
Again, this is going to total them up at the bottom. You can put notes on the right-hand side there. And, you would then send this out, as you send out the profit and loss, as you send out the other figures. You would go through and you’d include this in it so that the person buying, the person looking at the business, can understand how you’ve calculated the net profit and what those add backs look like. So, hopefully that all makes sense. As always, if you’ve got any questions or feedback, feel free to get in touch in the normal way. Otherwise, I will look forward to seeing you in the next video.
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