How Can I Value A Hospitality Business?

How Can I Value A Hospitality Business?

Owner Benefit: A Valuation Method for Small and Medium Size Hospitality Businesses

You are the owner and manager of a small restaurant, hotel, spa or other hospitality operation and you are thinking of selling your business.  But, now, you are facing several dilemmas.

How much should I sell my business for?

Do I really know the financial benefits I receive from my business? Is it only the profits I get from it?

How do I determine its fair value?

Do I need to hire a consultant to do that?

A popular and simple method for the owner to establish a fair selling price for the business is the “Owner Benefits” or “Multiple of Earnings” method.

What are the Owner Benefits?

The Owner Benefits (sometimes also called Discretionary or Adjusted Net Earnings) gives an indication of the total benefits a restaurant or another business provides for its owner on an annual basis.

How Owner Benefits is calculated?

To calculate Owner Benefits you take the Net Income amount and you add back also noncash expenses such as depreciation and amortization expenses, since these expenses do not represent actual cash outflows or payments for the business.  Then you add other benefits the owner may be receiving from the business such as: owner’s salary, personal insurance(s) charged on the business, other benefits the owner may be getting such as: mobile phone, transportation, entertainment and travel expenses that the owner charges on the business, interest expense since the business covers financing expenses for the owner and any other benefits the owner gets from the business itself.

Example of Owner Benefits Calculation (Table 1)

YEAR 20xx

 Amount
Net Income (After Taxes)

70000

Depreciation expenses

7000

Amortization expenses

4000

Owner’s salary

25000

Interest expenses

1000

Insurance expenses

4000

Transportation and Travel expenses

10000

Entertainment expenses

5000

Mobile expenses

1000

Total Owner Benefits

127000

As we can see on Table 1 the total Owner Benefits go far beyond the business’ Net Income from $70000 to $127000.

Tip: It would be also a good practice for the business owner but also for potential buyers to calculate Owner Benefits for the last 3 years and calculate the simple average or a weighted average of the last three years and use that as a final value of Owner Benefits.  The reason we need to do that is because maybe the last year was a very good or a very bad fiscal year and by doing that you can smooth out extremely good or bad financial performance.

Multiple of Owner Benefits (Multiple of Earnings)

The final step for estimating a fair selling price for the business is to use a multiplier of Owner Benefits.  This multiplier ranges usually between 1 and 3.  If you use a multiplier of 1 then the selling offered price based on Table 1 would be ($127000 X 1 = $127000).

Which multiplier should I use on the Owner Benefits?

A multiplier of 1 is frequently used for those businesses that when sold to another investor, the customers are highly attached to the existing owner and leave also.

However, other restaurants or hospitality operations that have: loyal customers who are not highly attached to the owner and have strong historical operating results may be offered at 3 or more times their average Owner Benefits (($127000 X 3 = $381000).

If you are not certain which multiplier to use,  you may apply a middle-of-the-road approach at approximately 1.5 ($127000 X 1.5 = $190500).

It’s always a good practice for business owners to consider different ranges of Owner Benefits Multiples in order to establish a price range for their business.

Conclusion

Owner Benefits is a very popular approach for establishing a fair value or range of values for a business since potential buyers would predominantly decide to invest or not in the business because of its earnings.

It is also a simple and effective method of valuing a small hospitality business.  In other words the owner can conduct business valuation without the assistance of a consultant.

However, larger hospitality business owners may need to consider other approaches to determine a fair selling price for their operation.  These approaches can be discussed in another article.

Mr. or Mrs. potential seller or buyer: At which price are you willing to sell or buy an existing restaurant or another business type and why?

Are there any other financial issues for the seller or buyer of the business to consider as part of the business’ market value?

 

 

Yiannis Megaloeconomou

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