Dealer Insights - September/October 2011 - How to Find Out Your Auto Dealership’s Value

September 01, 2011

If you’re going to sell your dealership, you need to understand its value. Even if you aren’t planning to sell it anytime soon, you can benefit from a business valuation. So how does the valuation process work? What do you need to know?

Work with an expert 

Business valuation is both an art and a science, requiring experience and expertise. So you need to work with a qualified valuation professional to obtain a value you can rely on. This is especially important when selling or transferring property to a related party, because the IRS could later challenge the transaction.

The valuator may use book value of shareholders’ equity as a starting point (or floor) for your dealership’s value. This is the difference between the carrying values of assets and liabilities on your balance sheet.

The valuators may adjust for items that are omitted, exaggerated or understated on your balance sheet. Examples include contingent environmental or legal liabilities, write-offs for uncollectible receivables, damaged or obsolete inventory, and fully depreciated equipment.

If you own your facility, the valuator will obtain a real estate appraisal and add the value separately to the preliminary appraisal of your dealer operations. He or she also will adjust your earnings (or cash flow) for reasonable rent expense. If this isn’t done, your real estate will be double-valued.

Count the intangibles 

Another piece of the valuation puzzle is intangible value — also known as “blue sky” or goodwill. The value of the goodwill may be applied to your franchise’s value. Buyers and sellers spend a lot of time negotiating this subjective component.

Goodwill often is determined using a price-to-cash-flow or price-to-earnings multiple, based on comparable transactions. Experienced valuators are diligent when selecting comparables. The prices paid at the height of public dealer consolidation, for example, frequently were inflated. Conversely, many recent deals involved fire sales of distressed stores.

The inverse of a pricing multiple is a capitalization rate. Cap rates are a function of the business’s perceived risk. These come into play if an appraiser applies a discounted cash flow analysis to value the dealership. Sounds tricky, but remember the higher the cash flow and the lower the cap (or discount) rate, the higher the business’s value.

Consider the variables 

There’s a wide range of valuation multiples and cap rates for auto dealerships. Not only is the industry susceptible to market changes, but many other factors can affect value.

Take product mix. Some brands sell better — and have higher growth prospects — than others. In general, new car dealers are more desirable than used car dealers; mid- or high-end import dealers are more desirable than domestic or economy dealers. A strong finance or service department also might command a premium in the marketplace.

Valuators also consider location. Successful dealers have updated, accessible showrooms and ample inventory space. Auto malls are in vogue compared to stand-alone facilities. Metropolitan dealers usually fare better than rural dealers, with some exceptions. For example, a Big 3 dealer in a rural Midwest community might sell for a higher multiple than one in an urban East Coast market.
And there’s the big-picture question of the dealership’s financial strength. Prospective buyers evaluate financial statements before making an offer. They want a history of high profits and liquidity, efficient turnover, strong growth, and low debt. High-volume dealers also tend to sell for more than small stores do. Further capital expenditures for manufacturer re-imaging requirements also can be a major consideration.

Valuators also adjust earnings (or cash flow) for discretionary expenses (such as excessive owners’ compensation and perks), nonrecurring items (such as legal expenses or extraordinary gains) or deferred maintenance.

And if you’re not selling soon . . . 

Even if a sale isn’t in your immediate future, a valuator can provide you with the information necessary to draft a buy-sell agreement. This agreement provides a plan to follow in the event you or a business partner unexpectedly dies, becomes disabled or otherwise withdraws from the company. A valuator will help name and define your agreement’s standard of value and suggest a formula for calculating it, so that ownership can be transferred at fair market value.

Another consideration: Your dealership’s value will affect the tax-related costs of gifting or bequeathing business interests, if you choose to pass the business to your loved ones. A valuation can prompt supportable discounts for lack of control and marketability, and prevent you from improperly estimating the value. Otherwise your heirs could end up with a sizable estate tax bill that could force them to sell your business.

Keep pace with change 

The value of your dealership has likely changed in the last several years. During the recession you may have sized down — or sized up if a competitor folded. In either scenario, you can benefit from knowing the value of your business today.

Sidebar: Preparing for a sale 

If you enlist the help of a valuation expert because you’re planning to sell your dealership, he or she will prepare your financial statements for buyer scrutiny by making various adjustments to earnings. This process is called “normalizing.”

Your valuator might, for example, remove one-time or discretionary items from your balance sheet and income statements, such as owner-specific and nonrecurring capital expenditures. This would provide the buyers with a more accurate picture of your dealership’s potential performance when it comes under their control.

To enhance your dealership’s perceived value, a valuator also might advise you to pay down debt, beef up your internal controls and ensure that legal documents, such as contracts, are in order. Sometimes, experts suggest more drastic measures, such as cutting staff, freezing expenditures to reduce overhead, implementing accounting practices that increase inventory turnover, or divesting businesses of a poorly performing unit.

Dealer Insights - September/October 2011  

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