BUSINESS PERFORMANCE REVIEW
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1 BUSINESS VALUATION BUSINESS PERFORMANCE REVIEW PREPARED FOR WILLIAMS TOOL COMPANY C Corp. Private Company 1 Years in business Cutting Tool and Machine Tool Accessory Manufacturing CONTENTS 1 BUSINESS VALUATION REPORT 2 ADJUSTED FINANCIAL STATEMENTS 3 DISCOUNT RATE & FREE CASH FLOW 4 VALUATION METHODS & COMPOSITE 5 FAIR MARKET VALUE & VALIDATION 6 TREND ANALYSIS 7 FINANCIALS & VIABILITY RISK 8 TERMINOLOGY Last modified at 5/17/216 11:4AM
2 BUSINESS VALUATION REPORT 1 SUMMARY DATA BUSINESS VALUATION REPORT BUSINESS VALUATION APPROACH TO VALUE This business valuation is an estimate of Fair Market Value (FMV) for 1% of the ownership interest of the business. FMV is the value that a buyer and seller would negotiate for an on-going business, in an arms length process with access to all information. Business valuations utilize three methods of valuation; the Income Method, the Market Method and the Cost Method. Because the business value is estimated as an on-going business, and not a liquidation of the business, the Cost Method is not used. Income Method: The Income Method uses the Capitalization of Earnings Approach, which capitalizes the company's earnings on a debt free basis. The Discounted Cash Flow Approach calculates the owner s discretionary earnings, also known as the Free Cash Flow (FCF), over the next five years. Also after the end of year five, the value of the company is estimated which is called the Termination Value. Both the FCF and the Termination Value are discounted to arrive at the present value of the cash flows. Market Selling Method: The Market Method utilizes the value of what comparable companies are selling. Fiscal Checkup has a proprietary database of public companies which we believe offers more transparent and accurate data. Due to their larger size, better capitalization, access to capital and generally greater liquidity, these publicly traded multiples are discounted the traditional 3%. Cost Method: The Cost Method values the market value of the assets. This method normally provides the lowest value because it measures the cost basis of the underlying assets. This 'replacement' method is more widely used in a 'liquidation' of a company. As previously mentioned, the scope of this valuation is to value the business as an on-going business, so Fiscal Checkup does not use the Cost Method. Validation and Cross Check: Our Business Valuation utilizes a cross check to determine if the valuation is consistent with what an investor would pay for the business, earning an appropriate return on invested equity (2% to 3%). VALUATION CONCLUSION ADJUSTMENT TO INCOME STATEMENT Latest year adjustments were $77, with adjusted EBITDA of $317,. ADJUSTMENTS TO BALANCE SHEET Latest year adjustments were $36, with adjusted Book Value of $866,. DISCOUNT RATE The calculated Discount Rate used in the Discounted Cash Flow Method was 18.84%. FREE CASH FLOW, YEAR 1 The estimated Free Cash Flow for the first projected year was $134,67. ESTIMATED FAIR MARKET VALUE In order to arrive at an estimated Fair Market Value of the business, many calculations have been performed. Any necessary adjustments to the Income Statement and Balance Sheet have been made. Fiscal Checkup's V Rating is used in calculating the appropriate Discount Rate. Complete financial statements are listed in the Lenders Report, including the Income Statement, Balance Sheet, UCA Cash Flow Statement, Projected Cash Flow Statements, Ratio Review and Industry Comparables Review.. The Fair Market Value for 1% of the Company is estimated at $1,918,99
3 ADJUSTED FINANCIAL STATEMENTS 2 Fiscal Checkup s Business Valuation is a valuable tool for most businesses; however it might not provide an accurate estimate of value for high growth, non-profitable companies or unusual circumstances where the financial statements don't adequately describe the business. The valuation does not comply with IRS Ruling 59-6, primarily because we are unable to perform a site visit. We recommend you contact your local valuation expert in these instances and where a local expertise is needed. FAIR MARKET VALUE AND VALUATION METHODS: The Business Valuation delivers a fair market value of a business based as an on-going business, therefore the Asset or Cost Method to value is not used here. The fair market value is the value that a buyer and seller would agree upon, where the economic incentive to purchase, is equal to the economic incentive to sell, with complete access to all market and Company information. Fiscal Checkup uses the traditional Income Method (Discounted Cash Flow and Capitalization of Earnings) and the Market Method. Our Validation Model cross checks the valuation conclusion. Our proprietary V Rating is applied in the Company Specific Risk Premium. (27). ADJUSTMENTS TO STATEMENTS: To reflect the true earnings potential and balance sheet value, certain adjustments must be made. There have been adjustments to the income statement (5) and balance sheet adjustments have been made to better reflect real value (9). This amount as been added to the book value on line 47 to reflect the true book value. Compared to the industry average, the Company has an excess of $26,2 (1) in working capital that might result in a pro-rata increase in company value. This amount could be added to the company's Fair Market Value in most cases because sellers normally deliver a balance sheet typical of the industry. Adjustments to Statements Adjusted - Cost of Goods Sold (> is negative #) ($5,) $5, $ $1, 2. Adjusted - Excess Compensation (from Inc. St.) $45, $55, $52, $55, 3. Adjusted - Expenses (> is negative #) $25, $15, $35, $12, 4. Adjusted - Other Adjustments (> is negative #) $ $ $ $ 5. Total Adjustments to Income Statement $65, $75, $87, $77, 6. Adjusted - Inventory (> is positive #) $36, 7. Adjusted - LT Assets (> is positive #) $ $ $ $ 8. Adjusted - Liabilities (> is negative #) $ $ $ $ 9. Total Adjustments to Balance Sheet $ $ $ $36, 1. Excess (Shortage) of WC compared to industry ($143,7) ($185,9) ($69,8) $26,2 Any adjustments to the income statement above are reflected below in the adjusted EBITDA (23). The percentage of EBITDA to sales calculates the Free Cash Flow (next page). Fiscal Checkup uses a blended EBITDA percentage by averaging the historical EBITDA to sales with the latest year's EBITDA to sales. Because buyers place more value on the most recent years, Fiscal Checkup weights the EBITDA for the last two years. Adjusted Income Statement Revenues $3,927, $4,247, $4,95, $5,721, 12. Growth % 15.49% 16.64% 13. Cost of Goods Sold ($2,515,) ($2,973,) ($3,455,) ($4,164,) 14. Gross Profit $1,412, $1,274, $1,45, $1,557, 15. Operating Expenses $1,377, $1,224, $1,318, $1,436, 16. Operating Income $35, $5, $132, $121, 17. Interest $43, $43, $4, $36, 18. Other Expenses (Income) ($14,) ($38,) ($4,) ($43,) 19. Total Non-Operating Expenses $29, $5, $ ($7,) 2. Net Profit Before Tax $6, $45, $132, $128, 21. EBITDA (before adjustments) $129, $166, $24, $24, 22. Income Statement Adjustments (5) $65, $75, $87, $77, 23. EBITDA - Adjusted $194, $241, $327, $317, 24. EBITDA - Adjusted % 4.94% 5.67% 6.67% 5.54%
4 DISCOUNT RATE & FREE CASH FLOW 3 EBITDA (Adjusted) Book Value (Adjusted) 4K 1M 3K 75K 2K 5K 1K 25K EBITDA Adj. EBITDA BV Adj. BV The Discount Rate is comprised of the risk free 2 Year T Bill, the Equity Risk Premium (equity risk) and the Company Specific Risk Premium (non-diversified risk) which is based on the Company's financials, trends and industry data. The Growth Rate is based on the Company's profit growth but is capped at 5% - average GNP growth plus inflation. The lower the discount rate, the higher the business value. The Discount Rate is used in calculating the Discounted Cash Flow and the Capitalization Rate is used in the Capitalization of Earnings on the next page. Discount Rate Percentage 25. Normalized 2 Year Treasury Bond (limited risk) 3.81% 26. Equity Risk Premium (ERP) 5.% 27. Company Specific Risk Premium 1.3% 28. Discount Rate of Free Cash Flow 18.84% 29. Pre-tax Profit Growth Rate (capped at 5%) 1.% 3. Capitalization Rate 17.84% The Free Cash Flow (FCF) is projected for five years. In year five, the 'termination' year where the Company would be recapitalized (or sold), the sale proceeds are added to the five years of the FCF. This terminal value (not displayed) is estimated to be $3,384,515. The first three years of the FCF calculation are displayed in the table below, and all five years in the chart below. Free Cash Flow (Firm) Year 1 Year 2 Year Revenues $6,489,13 $7,36,332 $8,348, Growth Rate (2-year avg %, unless noted above) 13.43% 13.43% 13.43% 33. EBITDA (blend: avg % last 2 years) $396,84 $449,262 $59, Income Taxes (35% on debt free earnings - EBIT) ($82,149) ($93,179) ($15,689) 35. Capital Expenditures (blend: depr and capex) ($96,31) ($19,23) ($123,896) 36. Working Capital Changes (blend: avg, latest year) ($83,26) ($94,174) ($16,817) 37. Free Cash Flow ( ) $134,67 $152,679 $173,178 Free Cash Flow 24K 18K $134,67 $152,679 $173,178 $196,429 $222,82 12K 6K Year 1 Year 2 Year 3 Year 4 Year 5
5 VALUATION METHODS & COMPOSITE 4 The Discounted Cash Flow (38) is based on the net present value of future income (FCF). The Capitalization of Earnings (43) is calculated by dividing the FCF by the Capitalization Rate. The Market Method (49) average reflects public companies discounted multiples of EBITDA, Book Value and Earnings. A 3% discount reflects a private company's lack of liquidity and capitalization. Discounted Cash Flow (Income Method) Present Value 38. Discounted Cash Flow Valuation $1,944,629 Capitalization of Earnings (Income Method) Capitalized 39. Debt Free Earnings (no interest) $162,5 4. Net Capital Expenditures (D&A less capex, 2 yr avg) $2,5 41. Earnings on Debt Free Basis $165, 42. Capitalization Rate 17.84% 43. Capitalized Earnings Valuation $924,75 Public Company Sales (Market Method) EBITDA Book Value Earnings 44. Industry Average (Selling Multiples) Less: Lack of Liquidity Discount 3.%.% 3.% 46. Weighted Multiple Subject Company (35% tax applied to earnings) $322, $866, $137,8 48. Market Multiple Valuation $1,962,17 $2,643,465 $1,69, Blended Selling Comparables Valuation - - $2,71,749 SELLING MULTIPLE COMPARABLES Valuation experts access databases of private company sales or they access databases from public company trading multiples. Public companies trade on the stock exchanges everyday. Fiscal Checkup believes the public markets trade in great volumes everyday and the access to information between buyer and seller is well established, making publicly traded stock multiples a dependable value to use in the valuation process. Fiscal Checkup discards the outliers (ie: companies selling for 12 times earnings) so they do not impact the average selling multiples. Fiscal Checkup's database consists of over 6 industries, which we refer to as the "Composite". COMPARING THE COMPANY'S INDUSTRY TO THE COMPOSITE The chart below called Selling Multiples - Industry to Composite, compares the industry in which the subject company competes, with all industries in the Fiscal Checkup's Composite database of all industries. The multiples displayed are the actual multiples from market sources. There has been no discount for lack of liquidity or capitalization which is generally 3%. COMPARING THE FISCAL CHECKUP COMPOSITE TO THE NYSE AVERAGE MULTIPLE The chart below called Selling Multiples - NYSE to Composite, compares the Fiscal Checkup database of all companies that make up our Composite, to the average company listed on the New York Stock Exchange. This comparison serves as a test to determine the accuracy of the Fiscal Checkup database. Variances are mostly due to Fiscal Checkup not including the outlier companies. This comparison should show great similarities as the Fiscal Checkup Composite almost serves as a microcosm of the public markets. Selling Multiples Selling Multiples 2 Industry to Composite 2 NYSE to Composite EBITDA BV Earnings Industry Composite EBITDA BV Earnings NYSE Composite
6 FAIR MARKET VALUE & VALIDATION 5 VALUATION SUMMARY: Valuations are part subjective and relate to subject quality, engaging good buyers and structuring the transaction. Therefore, a valuation range is submitted and is dependent on these variables. The three value approaches are weighted to yield a reliable measure of the Company's Fair Market Value (FMV). The Company's FMV (53) is $1,918,99 and the FMV of the Equity (54) which subtracts debt, is $1,918,99. The valuation range (55) discussed previously, estimates the Company's Fair Market Value Range between $1,727,18 and $2,11,8. The Company's V Rating of 61.4 signals a reasonable business viability going forward. Weighted for Fair Market Value Full Value Weighted 5. Capitalized Earnings (Weighted at 1%) $924,75 $92, Discounted Cash Flow (Weighted at 3%) $1,944,629 $583, Market Method (Weighted at 6%) $2,71,749 $1,243,5 53. Fair Market Value (1% of Company) $ $1,918, Fair Market Value of Equity (FMV less any LT Debt) $ $1,918,99 Full Valuation Range Low FMV High 55. Fair Market Value (1% of Company) $1,727,18 $1,918,99 $2,11,8 3M Enterprise Value 2.3M $1,944,629 $1,962,17 $2,643,465 $1,69,676 $1,918,99 1.5M $924,75 75K Discounted CF Capitalized Earnings EBITDA Book Value Earnings Fair Market Value The ultimate measure of value is what a willing buyer would pay for a company on the open market. Fiscal Checkup cross checks the FMV against a market-based return a buyer would expected on an investment. To perform this validation on the FMV, we use a buyer's expected 2% to 3% return on the investment. The first year's earnings return on equity is estimated to be 3.22% (63) which indicates the valuation range is appropriate for the company. A buyer's expected return on invested capital (64) of 14.44% is greater than the 6.89% weighted average cost of capital (cost of equity and debt - 65) which indicates the investment would provide a positive use of funds and value would be created. Based on numeric data, the Fair Market Value for 1 percent of the company would be approximately $1,918,99. Review the over-stated working capital of $26,2 (1) to determine its implications to additional seller proceeds. Validation Model - Return On Buyer's Equity Year Fair Market Value $1,918, Transaction Financing Cost (7% 5% interest) $67, Invested Capital (3% buyer's cash down payment) $575, Adjusted EBITDA - Capital Expenditures $299, Income Taxes ($82,149) 61. Interest (after tax benefit) $43, After Tax Earnings ( ) $173, Return On Buyer's Equity (62/58) 3.22% 64. Return On Invested Capital (estimated) 14.44% 65. Weighted Average Cost of Capital (WACC) 6.89% 66. Buyer's Cost of Equity 15.39%
7 TREND ANALYSIS 6 TRENDS IMPACT PRESENT AND FUTURE BUSINESS VALUE Valuations are impacted by the earnings strength. Business trends impact the quality of the company, which is measured in the 'Company Specific Risk', a component used in building out the Discount Rate. Therefore, company trends impact business value. Changes in the Income Statement, Balance Sheet and the UCA Cash Flow Statement follow. Last year revenues increased by 16.64% while profits were flat at (.54%). The prior year's profits improved 84.%. Gross profits increased by 7.38% last year while operating income declined (4.35%). Overall, increased profits are improving business value. Sales growth and profit drives business value. Change in Income Statement Sales 8.15% 15.49% 16.64% 2. Cost of Goods Sold 18.21% 16.21% 2.52% 3. Gross Profit (9.77%) 13.81% 7.38% 4. Operating Expenses (adjusted) (1.6%) 7.11% 8.83% 5. Operating Income (adjusted) 31.25% 75.24% (4.35%) 6. Interest.% (6.98%) (1.%) 7. Total Non Operating Expense (82.76%) (1.%).% 8. Net Profit Before Tax 96.8% 84.% (.54%) Accounts receivable grew 6.15%. Inventory was up by 1.85%. Current assets increased 12.24% while Current liabilities increased 11.28%. Accounts payable remained falt over the past year. Fixed assets grew at a slower rate than sales. Long-term, it is essential to have profits supporting the balance sheet. The equity change was negative over the last year. Change in Balance Sheet Cash & Equivalents (54.29%) 26.25% 18.16% 2. Accounts Receivable 19.33% (2.7%) 6.15% 3. Inventory 5.24% 24.1% 1.85% 4. Total Current Assets 8.41% 16.42% 12.24% 5. Net Fixed Assets (1.%) (.54%) (.82%) 6. Other Long Term Assets 137.5% (3.26%) 16.98% 7. Total Assets 6.47% 11.19% 1.7% 8. Accounts Payable (2.9%) 11.47% 11.52% 9. Total Current Liabilities.86% 12.23% 11.28% 1. Total Liabilities 6.2% 3.76% 8.51% 11. Net Worth 7.9% 28.5% 12.93% Cash from Sales (sales less AR) increased by 15.72% last year and Cash After Production (cash after COGS, inventory, AP, AR) was up 12.63%. One of the most important lines in the UCA Cash Flow Statement is whether the company had a cash surplus or cash needs last year. This is the Cash After Investments. Last year the Cash After Investments increased by 6.57%. While these growth rates can increase and decrease, it is critical to review the UCA Cash Flow Statement and look at the actual numbers, not just the percentage changes. Cash is the focal point of success. Change in UCA Cash Flow Statement Cash From Sales.% 5.96% 18.14% 15.72% 2. Cash From Production.% (19.9%) 14.77% 12.63% 3. Cash After Operations.% (15.22%) % % 4. Cash After All Operations.% (21.49%) (82.11%) % 5. Cash After Financing Cost.% (33.33%) (144.23%) 78.7% 6. Cash After Debt Amortization (CADA).% (2.%) (16.26%) 92.61% 7. Cash After Investments - SURPLUS (NEEDS).% (785.%) (54.72%) 6.57% 8. Change In Cash.% (114.84%) (63.16%) 27.97%
8 FINANCIALS & VIABILITY RISK 7 SALES & MARGINS: The company's demand for it's products, it's customer base and markets, are reflected in the margins. An optimal customer mix improves margins and reduces risk. It's best if the largest customer accounts for less than 3% of sales. The largest customer accounted for less than 1% of sales. A decrease in Cash from Profit and WC could reflect deteriorating customer or product mix or both. A 1.5% increase in pricing improved gross profit margins with a 7.2% 'real' growth rate. Last year's sales contributed more 'new sales' profit margin than the prior year's base profit margin. MARKET DYNAMICS: Market dynamics impacts sales and profit margins. The Company's market has little to marginal growth, up to 2%. Closely watch expenses and investigate other markets to improve margins. Sales grew 16.64% and the GPM declined (7.94%). When compared to competitors, the Company's market share increased, but less than 2%. Gathering market intelligence on sales wins can be leveraged into more sales. The Company's industry trends with the economy in general which should reflect somewhat stable sales. Sales planning should begin knowing the Sustainable Growth Rate (SGR) which considers margins and balance sheet items to determine maximum sales growth that can be supported internally. Last year the Company could internally finance the 16.64% sales growth which was below the 18.7% SGR. Sales were $317,833 per employee. Income Statement Summary Revenues $3,927, $4,247, $4,95, $5,721, 2. Gross Profit $1,412, $1,274, $1,45, $1,557, 3. Gross Profit Margin 35.96% 3.% 29.56% 27.22% 4. Operating Expenses (after any excess comp) $1,332, $1,169, $1,266, $1,381, 5. Operating Income (after any excess comp) $8, $15, $184, $176, 6. Net Profit (after any excess comp) $51, $1, $184, $183, Balance Sheet Summary Total Current Assets $1,32, $1,431, $1,666, $1,87, 2. Net Fixed Assets $41, $369, $367, $364, 3. Total Assets $1,762, $1,876, $2,86, $2,296, 4. Current Liabilities $697, $73, $789, $878, 5. Term Debt $ $ $ $ 6. Total Liabilities $1,226, $1,32, $1,351, $1,466, 7. Stockholders Equity $536, $574, $735, $83, 8. Total Assets & Stockholders' Equity $1,762, $1,876, $2,86, $2,296, V Rating The V RATING impacts the Company Specific Risk Premium used in the Discount Rate. V Rating : to 2 High Risk 21-to 45 Sub-Standard 46 to 55 Satisfactory 56 to 79 Good 8 to 1 Excellent Last Year Performance Compared to Trend Compared to Industry Score Profit Before Tax Operating Cash Flow Liquidity (Current Ratio) Debt to Net Worth Interest Coverage Profit Gap Variance 2 n/a 2 Market & Co. Dynamics 8 n/a Years in Business 1 years. n/a 8 75 Good 63
9 TERMINOLOGY 8 ADJUSTMENTS TO THE FINANCIAL STATEMENTS Adjustments are the necessary changes that are entered to 'restore' the financial statements to a normalized basis. Adjustments can be made on the income statement or the balance sheet where values don't represent the financial statements. EXCESS WORKING CAPITAL When companies sell, buyers expect sellers to deliver the appropriate working capital at the closing, that is consistent with the industry or the needed structure to maintain the business. This working capital variance can be positive (cash back to seller) or negative (credit to buyer). If working capital is insufficient, buyers will consider the variance as purchase price which means a reduction in value. DISCOUNT RATE The Discount Rate is the interest rate used in a valuation to calculate the future income stream of a business in today's dollars (present value). The discount rate incorporates various returns and builds a return rate an investor would require given the risk of the future income stream of a business. The smaller the discount rate, the larger the business value. CAPITALIZATION RATE The Capitalization Rate is a percentage number calculated by deducting a companies earnings growth rate from the Discount Rate. The Capitalization Rate is used to capitalize a company's income stream to arrive at a value of a business. FREE CASH FLOW Free Cash Flow (FCF) is a widely used measure in determining company performance (operating cash flow less capital expenditures and working capital). FCF is the cash a company can generate after investing in its fixed assets (capital expenditures). DISCOUNTED CASH FLOW Discounted Cash Flow (DCF) is the present value of future income streams. The DCF Method calculates the present value of a company's free cash flow and termination value, to present a business value today. DCF utilizes the discount rate in the calculation. CAPITALIZATION OF EARNINGS The Capitalization of Earnings converts a company's income stream to a present business value. The Capitalization of Earnings uses variations of free cash flow of the latest income stream. The formula is Earnings/Cap Rate. MARKET METHOD In the Market Method, we use selling multiples from the public markets where stock is traded daily. Accessing private data on company transactions can be difficult and spotty. Publicly traded companies are typically larger than private companies, are better capitalized, have more transparency, and are openly traded. Therefore, publicly traded company multiples are normally discounted by 3% due to size and liquidity. Public companies traded in volume, presents a strong valuation model. WEIGHTING THE APPROACHES TO VALUE Some valuation methods might better reflect value for a specific company. Experts select which methods best fits with the subject company being appraised to meet their objectives. A weighted average best suits most companies for a market-based appraisal. Fiscal Checkup weights the Discounted Cash Flow 3%, Capitalization of Earnings 1% and Market Method, 6%. VALIDATION MODEL Business values are somewhat academic and only when a business is sold, is the business valued established. Fiscal Checkup defines a valuation range 1% above and 1% below the fair market value. Our validation model estimates a buyer's return and cross checks that with the valuation range. If the buyer's return is greater than traditional returns, the business might be valued at the top or even surpass the top of the valuation range. If the return is low, the value might be at the lower end of the range. WEIGHTED AVERAGE COST OF CAPITAL (WACC) The weighted average cost of capital is the average rate of a company's funding (7% debt and 3% equity). WACC is the amount that debt and equity holders expect to receive and is the minimum return that is normally required by a company. If a company's ROIC is greater than the WACC, value is being created. If less, value is being diminished. BUYER'S COST OF EQUITY The buyer's cost of equity is the amount the buyer needs to earn on an investment. This calculation multiplies the Risk Free Return and the Equity Risk Premium multiplied by the appropriate beta (volatility). In the Validation Model, the Cost of Equity makes up 3% of the WACC (3% down payment) with the Cost of Debt making up the remaining 7%.
10 ADVISOR COMMENTS 9 Advisor Comments Advisor's comments can be filled in on this page. If there are no comments, this page will be left blank
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