Step 1 Valuation Benchmark:
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The second in a series on Tracker™
Majority partner “Adam” owned 51% of the business. Minority partner “Baker” owned the other 49%. For several years, Baker had been a royal pain in the neck to Adam. Baker accomplished this by questioning every move Adam made and sending legal notifications challenging Adam whenever possible.
This resulted in being a major distraction to Adam, not to mention running up a lot of legal bills. The relationship got so tense that the two sides would not meet in the same room with each other. All communication was channeled through attorneys on both sides.
Finally, one day Adam came to me and said, “What will it take to buy out Baker?” The company had a good history of financial performance, so the valuation process was pretty straight forward. The Income Approach was best to value the business. I utilized the previous financial performance to project income, expenses, and CAPEX, then discounted it back to the valuation date.
However, the challenge was determining the applicable discounts to apply to the value? Should we adjust the value with discounts for Lack of Marketability and Lack of Control? If so, by how much? Discounts are normally used in Fair Market Value situations. However, in this case, there was nothing forcing either party to make a move to buy or sell. Baker had the financial and legal resources to stay on as a partner and continue to make life miserable for Adam for a long period of time.
I calculated a value of the 49% ownership by Baker to be $16 million, without any discounts. After some negotiations, Baker agreed to the buyout. After the sale, Adam had the freedom to manage the business without any more annoyance from Baker. Earnings from the business paid Adam back over time.
In negotiations, leverage is everything, real or perceived. In this case, there was nothing Adam could do to force Baker to accept discounts. The emotional annoyance of continuing to have Baker as a partner out weighed the cost of not being able to benefit from having any discounts. Adam, and I’m sure Baker, felt like they won.
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