Underwater: Selling An Unprofitable Company
We occasionally work on a valuation assignment where the subject company has a history of losing money. We are engaged by a shareholder of the business owner because they are looking to cut their losses and sell. So what is a company with negative earnings worth?
In most cases, the value of a “going concern” company is based on earnings. There are many (many!) ways to ultimately get to a value, but for the most part, profit drives value. Why? Consider yourself as the buyer of some notional widget maker. WidgetCo, Inc. has some really, really nice machinery. Top of the line. State of the art. Great office space too. But buying the company, do you care more about the machinery and office space, or the ability to use both to turn a profit? In most cases the answer is “profit” – those assets may be nice… but they need to produce a profit for you.
The Unprofitable WidgetCo
Ok, so all well and good. WidgetCo turns a profit, we do some magic, and voila! Value. You go and sell WidgetCo. But what if Widget has a history of losses? What if all those fancy machines and office space aren’t humming away making widgets? The situation just got complicated. In these cases we look at a number of factors:
Turns out that in many cases it’s possible to restructure a company in order to turn a profit. It’s hard work for sure, but there is no doubt that this happens all the time. (In fact, there is a cottage industry that focuses on just this type of work). In setting a price, one of the first steps, then, is to rework the financial statements to present a “pro forma” indication of how WidgetCo could turn a profit. Increase pricing? “Fire” unprofitable customers? Drop excess costs and expenses? While there is an art to this process, the ideal outcome is being able to justify that there is a profit to be earned from WidgetCo … which forms the basis of value.
Value to An Acquirer
Let’s assume that you’ve worked the numbers – maybe even put a plan in place to make some changes- but WidgetCo is still unprofitable. For you. The existing company. Another consideration then is to consider what the value might be to an acquirer. Do you have certain certifications that would be valuable to a competitor? Maybe you have excess machine capacity that a buyer could use (thus driving up utilization rates and ROI)? Or maybe, when combined with a buyer’s service offering, the buyer could sell more to your existing customers.
There are plenty of scenarios here, but the most important consideration is understanding what value your WidgetCo has to a specific buyer.
Value of Assets
When you’ve exhausted your other options, it’s time to consider the dreaded “Fire Sale.” In this case, the business is worth the sum of its parts (less the cost to liquidate). From a valuation perspective, this often means writing down intangible assets to zero. Leasehold improvements? Basically not salable. Franchise fees? Likely not transferable. Whereas “book value” is often the “floor” to value in most situations, in a liquidation scenario, certain adjustments must be made to mark down each asset (or liability) to its ultimate value.
Selling an unprofitable company is hard. Heck, valuing an unprofitable company is hard. It often means investing in help from your CPA or turn-around consultant to realize the most value possible. The other option is liquidation – and this is never a pretty option. We always counsel clients to think long and hard about re-investing in a turn-around scenario (which will require extra cash in) before settling on a liquidation (to get a meager amount of cash out).