By Maurie Cashman
Your business value may be increasing and it may have little to do with anything you are specifically doing. The new tax law, combined with some specific market forces are lifting the valuations of many small businesses. If you are considering selling, you should pay close attention to these factors outside your business.
“The sure way to miss success is to miss the opportunity.”
The New Tax Law
The 2017 Tax Jobs and Cuts Act contained several provisions that can boost your business value:
- Corporate tax rates have been cut to a flat 21%. This has a significant impact since buyers look at the value of a business on an after-tax basis. With marginal tax rates cut by roughly 46% buyers have much more cash flow left over after paying Uncle Sam. Cash flow is what drives business and business valuations. Your after-tax cash flow just went up and buyers will recognize that as well when looking at your company.
- Bonus Depreciation. In 2018 you can deduct 100% of assets you purchase. That means that a buyer of your business in an asset purchase can deduct the entire purchase in 2018. This can have a tremendous impact on how aggressive a buyer might be if you have an asset-rich business. A buyer can purchase, adjust the basis up to the purchase price and write it all off on 2018 return if the buyer has enough taxable income to offset against the write-off. If he does not, he can carry a Net Operating Loss forward to offset future tax. This deduction phases out at a rate of 20% annually through 2023 so its impact will lessen over time.
- Section 1031. The government did take away the ability to do a 1031 exchange with non-real estate assets. This primarily affects the net proceeds you could realize from your business sale since you will no longer be able to do a tax-free exchange on personal assets to avoid capital gains.
The Equity and Bond Markets
The equity and bond markets play a role in the value of your business as these markets influence what value perceptive buyers will pay for your business. When the stock market is seen as reasonably or under-valued, it is a more attractive investment alternative for buyers. When the markets are uncertain and potentially over-valued, investors attach less premium to those markets and are more willing to look at alternatives – like your business.
Bond markets have been creeping up recently, which makes bonds slightly more attractive – but no one knows how far they will move or how long it will take them to move. Bond yields are still historically low. Equity markets have become much riskier and the valuation industry has moved the risk premium attached to public equities down a full 1% in the past year. That means that the same business valued at five million dollars a year ago could now reach a value of $5,350,000. That is a pretty nice boat!
Competition for businesses is very high right now. There is a lot of cash in the economy chasing deals. Private equity firms are flush with cash and looking for ways to deploy it. We received over twenty contacts in March alone from private equity firms all over the nation wanting to look at businesses or talk about acquisition strategies.
These firms are now moving downward into the middle and lower market capitalizations to try to find deals and to escape the murderous competition occurring in the large cap markets. “The M&A environment continues to be as competitive as ever. Looking for relief from high valuations and hotly contested auction processes, many private equity firms and strategic acquirers are moving down market.”
You may not think you are right for a private equity investment but the point is that as the money moves into middle and lower markets, it increases the demand in those markets. Our Economics 101 class taught us that when demand increases, either supply increases to meet demand or prices rise to ration the supply.
Think it Through and Get Advice
While it is true that you should not try to time a market, that does not mean you should not be aware of what is going on and take advantage of opportunities if the time is right for you. It may be awhile before you see this combination of outside factors again for a while.