Buy-Sell Agreements: Calculating the Purchase Price

Hopefully you have read our previous blog discussing some of the benefits of your business having a Buy-Sell Agreement. This blog will discuss some of the methods used to value your company. This is especially important because if the purchase price cannot be calculated from the buy-sell agreement, the contract may not be enforceable.

• Book Value . Using the sum of the business’s assets less its liabilities, the co-owners reach an agreement of the value of the company. This method is most appropriate in the early stages of a business’s existence.
• Multiple Book Value . If your company is several years old, determining its value requires more than just looking at its book value. You must also consider intangible assets such as its trademarks, goodwill and client lists.
• Capitalization of Earnings . The value of your business may be determined by estimating an acceptable rate of return on the owners’ investments. The company’s yearly earnings are calculated by taking the gross revenue less the cost of down business. The annual earnings are then multiplied by an agreed-upon multiplier, which is typically based on an industry standard.
• Appraisal . The business and the departing owner can select a mutually acceptable appraiser to value the company. If they cannot agree upon an appraiser, each party can select their own appraiser (at their own expense). The two appraisals can then be averaged together to determine the value. If the difference between the two appraisals is significant, a third appraiser can be appointed to be the tie-breaker.
• Fixed Price . If the owners set a fixed price to value the company, it is important to routinely review the amount to verify that it continues to reflect the actual value of the business.