| Most business valuations are driven substantially by the | | | | consequently, the lower the appraiser perceives the |
| company's historical financial statements, tempered by | | | | risk, the lower will be the capitalization rate and the |
| other factors such as: location, brand name, | | | | higher will be the price he would expect a potential |
| management and such. In truth and in fact, the | | | | purchaser to pay for the business. |
| dealership's balance sheet represents less than half | | | | In short, the capitalization rate is the appraiser's opinion |
| the information necessary to properly value an | | | | as to a rate of return on investment that would |
| automobile dealership. The balance sheet is but a | | | | motivate a prospective purchaser to buy the |
| starting point from which a number of factors must be | | | | dealership. Considerations include those specified in |
| added and subtracted in order to determine the true | | | | Revenue Ruling 59-60, as well as available rate of |
| value of the assets. | | | | return on alternative investments. |
| Valuing new car dealerships has to do with projecting | | | | 2. Adjusted Net Worth Formula: Net worth of the |
| future profits and opportunities based upon the | | | | company, adjusted to reflect the appraised value of |
| "dynamics" of the particular dealership being valued | | | | the assets used in the day to day operations of a |
| and of the automobile business itself. | | | | business, assuming that the user or purchaser will |
| The Internal Revenue Service recognizes that | | | | continue to make use of the assets. To this "net |
| valuations include more than financial statements: "The | | | | worth" value will be added blue sky or goodwill, if any. |
| appraiser must exercise his judgment as to the degree | | | | The "Adjusted Net Worth Formula" is the most |
| of risk attaching to the business of the corporation | | | | common method used in purchasing and selling a new |
| which issued the stock, but that judgment must be | | | | car dealership. |
| related to all of the other factors affecting the value." | | | | 3. Orderly Liquidation Formula. This method values the |
| Revenue Ruling 59-60, Section 3.03. | | | | assets as if all of them had to be sold - not at a "fire |
| DEFINITION OF MARKET VALUE | | | | sale," but in an orderly manner and without time |
| The definition of market value according to the | | | | constraints. Normally, if the dealership is profitable, |
| American Institute of Real Estate Appraisers' | | | | some value will still be placed upon goodwill. |
| Dictionary of Real Estate Appraisal, is: "The most | | | | 4. Forced Liquidation. The lowest of all values, forced |
| probable price in cash, terms equivalent to cash, or | | | | liquidation means that all of the assets must be sold at |
| other precisely revealed terms, for which the | | | | a forced sale such as an auction, creditors' sale or by |
| appraised property will sell in a competitive market | | | | order of a bankruptcy court. A bankruptcy proceeding |
| under all conditions requisite to fair sale, with the buyer | | | | regarding a new car dealership almost never brings |
| and seller each acting prudently, knowledgeably, and | | | | goodwill. This might be the most appropriate formula if |
| for self interest, and assuming that neither is under | | | | the dealership has no lease (or only a short term |
| duress." American Institute of Real Estate Appraisers, | | | | remaining on its lease) and cannot, as a practical |
| The Dictionary of Real Estate Appraisal. (Chicago: | | | | matter, relocate. |
| American Institute of Real Estate Appraisers, 1984), | | | | 5. Income Formula. The income formula is basically |
| 194 195. | | | | taking the store's earnings and multiplying it by an |
| In Revenue Ruling 59-60, the Internal Revenue Service | | | | appropriated capitalization rate. The trick here is the |
| defines "fair market value" as follows: "...the price at | | | | definition of "earnings." In determining "earnings" a |
| which the business would change hands between a | | | | perspective purchase could use any combination of |
| willing buyer and a willing seller when the former is not | | | | the following: |
| under any compulsion to buy and the latter is not under | | | | (a) current earnings |
| any compulsion to sell, both parties having reasonable | | | | (b) average earnings - add the last five years together |
| knowledge and relevant facts." | | | | and divide by 5 |
| The purpose of Revenue Ruling 59-60 is to outline and | | | | (c) weighted average earnings - usually an inverted |
| review in general the approach, methods and factors | | | | weight with the current year multiplied by five, last year |
| to be considered in valuing shares of the capital stock | | | | by four, the year before last by three, four years ago |
| of closely held corporations. | | | | by two, five years ago by one, then adding them |
| The methods discussed in the Revenue Ruling apply to | | | | together and dividing by 15 |
| the valuation of corporate stocks on which market | | | | (d) cash flow - net income plus agreed add-backs |
| quotations are either unavailable or are of such | | | | such as depreciation, LIFO, personal expenses, excess |
| scarcity that they do not reflect the fair market value. | | | | bonuses and such |
| The Ruling goes on to state that no set formula can | | | | (e) forecasted earnings - future projected earnings |
| be devised to determine fair market value of closely | | | | discounted to present day value. |
| held stocks and that the value will depend upon such | | | | 6. Fair Value. NADA also refers to a third value in |
| considerations as: | | | | addition to "Market Value" "Investment Value," which it |
| (a) The nature of the business and the history of the | | | | calls "Fair Value." NADA describes "Fair Value" as |
| enterprise from its inception. | | | | being "...primarily used when a minority shareholder |
| (b) The economic outlook in general and the condition | | | | objects to a proposed sale of the company in |
| and outlook of the specific industry in particular. | | | | assessing liquidating damages." and defines it as: "The |
| (c) The book value of the stock and the financial | | | | value of the minority interest immediately before the |
| condition of the business. | | | | transaction to which the dissenter objects, excluding |
| (d) The earnings capacity of the company. | | | | any appreciation or depreciation in anticipation of the |
| (e) The dividend-paying capacity. The ability to pay | | | | transaction and without reference to either a minority |
| dividends is often more important than a company's | | | | or non-marketability discount." |
| history of distributing cash to shareholders, especially | | | | The NADA guide states: It is not common for auto |
| when valuing controlling interests. | | | | dealers to run across this particular valuation standard. |
| (f) Whether or not the enterprise has goodwill or other | | | | This author has never used, nor has ever seen this |
| intangible value. | | | | value used with respect to valuing automobile |
| (g) Sales of the stock and the size of the block of | | | | dealerships. |
| stock to be valued. | | | | As can be seen in this report, this author in discussing |
| (h) The market price of stocks of corporations | | | | valuations excludes what NADA describes as "Fair |
| engaged in the same or a similar line of business | | | | Value". |
| having their stocks actively traded in a free and open | | | | 7. The Greater Fool Theory. The National Automobile |
| market, either on an exchange or over-the-counter. | | | | Dealers Association publication (A Dealer Guide to |
| With respect to an individual dealership sale, the best | | | | Valuing an Automobile Dealership, NADA June 1995), |
| comparable is the amount the public company paid or | | | | bemuses, in part: "A Rule of Thumb is more properly |
| received for buying or selling a similar dealership, not | | | | referred to as a 'greater fool theory.' It is not 'valuation |
| what the public company's stock value or earnings | | | | theory, however." (In its "Valuing an Automobile |
| multiple, per se, that is reflected on the stock | | | | Dealership: Update 2004" NADA dropped the |
| exchange. | | | | reference to "fool" and simply states that the theory is |
| In practice, in arriving at the fair market value of a new | | | | ". . . rarely based upon sound economic or valuation |
| car dealership, several different formulas have been | | | | theory," but advises sellers to "Go for it, and maybe |
| used: | | | | someone will be stupid enough to pay [it]." |
| 1. Return on Investment (or earnings valuation) Formula: | | | | The considerations for valuing new car dealerships are |
| The value of a business to a particular purchaser | | | | more complex than those used for valuing most other |
| based upon a return on investment analysis. This value | | | | businesses. Dynamics such as the unique requirements |
| varies from purchaser to purchaser, according to the | | | | of automobile manufactures and distributors can limit |
| purchaser's investment criterion, and it may or may not | | | | the amount of monies that may be paid for a |
| reflect fair market value. The National Automobile | | | | dealership, regardless of what perspective purchasers |
| Dealers Association (NADA) refers to this value as | | | | may offer to pay for the store. |
| "Investment Value." A Dealer Guide to Valuing an | | | | Therefore, the value of a new car dealership varies |
| Automobile Dealership, NADA June 1995, Revised July | | | | based upon the needs and ability of the purchaser and, |
| 2000. | | | | consequently, the same dealership could have two |
| The capitalization rate is determined by the stability of | | | | different values to two different purchaser and both |
| the dealership's earnings and the risk involved in the | | | | values would be correct. |
| automobile business at the time of sale, investment, or | | | | Thus, our valuation of the subject dealership should be |
| valuation. This method is highly subjective as the | | | | considered in the context and limitations of the facts |
| capitalization rate is based upon the particular | | | | and history of new car dealership sales as delineated |
| appraiser's perception of the risk of the business; | | | | herein. |