March 12, 2018
Article
The generally accepted approach to valuing trading businesses is the Profits Method – applying an appropriate multiplier to the Fair Maintainable Operating Profit; which in turn is derived from the Fair Maintainable Trade (or FMT). Jonathan Coombs, who has valued and appraised over 4,000 trading businesses while working for Pinders’, explains what it is, and its role in the business valuation process.
What does FMT show current and potential business owners?
‘The Red Book’ (published by the Royal Institution of Chartered Surveyors) specifies its use and defines it as “the level of trade that a ‘reasonably efficient operator’ would expect to achieve on the assumption that the property is in good repair and suitably equipped“. When considering the expectations of a ‘reasonably efficient operator’ a valuer should disregard any impact on turnover and profit attributed solely to the personal skill, reputation, and expertise of the existing owner.How is FMT assessed?
The key is having access to a large database of detailed trading information gleaned from similar businesses. This will show the ‘normal benchmarks’ to which efficient businesses of different types can be expected to perform. However, a reference to such sector norms should be viewed as the starting point of analysis and not the final answer, as valuers should also examine the peculiarities of each individual business for possible departures from the norm.Why are FMT and the Current Trade Assessment sometimes different?
Every business has a unique story about where it has been, where it is currently and where it is heading. The CTA is effectively a snapshot of trading performance as at the date of valuation, reflecting how it is being run by the existing owners. The FMT considers the sustainability of that performance. Of course, the two may be the same but adjustments to income or operating expenses may sometimes be appropriate to fairly reflect the true earnings potential. Adjustments can be positive or negative, dependent upon the circumstances.How are staff costs assessed?
Because staffing tends to be the largest cost centre in the businesses we value, we examine these costs very closely. Business owners may employ more staff than a reasonably efficient operator would, to make life easier for themselves; there are also businesses where several family members are involved and not necessarily paid the market rate. The most common staff adjustment relates to the use of a manager. Many businesses are valued on a fully managed basis, largely because most comparable evidence is in that format. Consequently, in appropriate cases where the business is owner-operated, we allow for the cost of a manager in the FMT assessment. Where else can expenses vary?- Repairs & maintenance – one-off capital improvement projects
- Motoring – excessive personal costs from the owners’ family would not be incurred by a new owner
- Heat & Light – change of supplier or introduction of energy saving measures may have cut costs
- Rates – a change in the rateable value may have resulted in higher/lower rates payable
