Evaluating the Company

A company evaluation might or might not be part of the business plan document itself, but you need to evaluate the business. This can be a difficult part of the process, because no two companies are alike, and standard guidelines you might find won't necessarily apply. Each bank uses its own valuation methods, and nobody wants to tell you what his or her method is.

In this case, three different valuation methods were used and then averaged together. The three methods were as follows:

• Thirty percent of annual sales (Source: [BizStats02]).

• Five times EBIT (Earnings Before Interest and Taxes). (Source: [Robb95])

• Earnings (EBIT) times two, plus inventory. (Source: [SCORE02])

The desired and maximum purchase prices were set based on the average of the valuations yielded by these three different methods.

Adapting Valuation

The target company is a retail game business, so the valuation methods that were used were based on factors such as sales and inventory. Different valuation methods should be used for a game development company.

The concept of EBIT (Earnings Before Interest and Taxes) applies to any business. Put succinctly, EBIT represents all profits (income minus deductible expenses) before interest and income taxes are deducted.

You will also need an asset breakdown: what exactly are you buying, and how much is every piece of that puzzle worth. A little creativity might be needed here, because it is likely that some of the price that will be paid will be above and beyond the tangible assets. That "above and beyond" money is usually called "goodwill." However, if your loan goes through the U.S. Small Business Administration (SBA), there cannot be any goodwill built into the purchase price. Therefore, you have to find other reasonable assets and assign them value. An example of such a valuable but intangible asset is a Non Compete Agreement, which states that the current owner or president cannot start a new game company (taking the most valuable employees with him) and compete against your new enterprise for at least two or three years. Determine how much such an agreement might be worth, and add that to the asset breakdown. Or perhaps the current owner will agree to consult exclusively for you for the first two years after the acquisition.

Figure out your capital spending plan. How much money do you need to buy furniture, equipment, business licenses, office lease deposits?

What is your "startup nut?" How much money do you need to buy the business and run it until you're past the transition period and the company is making a profit?

These figures tell you how much of a loan you need. You will be expected to inject some of your own capital into the acquisition. Expect this to be at least 25 to maybe 30% or more, depending on bank policy.

Figure in the loan payments into your Profits & Losses and Cash Flow statements. The interest payments go into the P&L, while the principal payments go into the Cash Flow.

Completing the Picture

Part III of your business plan is all about the current owner and you. The business plan needs to paint a complete picture of both parties of the deal—the buyer and the seller—and why the banks should want to loan the money for the deal to happen.

The banks want to see that you are stable, capable, reliable, and responsible. You have to have an up-to-date credit report and FICO score. A FICO score is a number that rates the individual's likelihood to repay a loan. A high number means you are a good credit risk. Use myfico.com, equifax.com or one of several other Web sites to obtain this data. Each bank will also have its own Personal Financial Statement forms they'll want you to fill out. They're taking a big risk on you, and they want to feel comfortable about taking that risk.

Other supporting documents that will need to be attached to the business plan are your r sum and the company r sum of the acquisition target. Specifically, you will need to include the past three years' corporate tax returns for the acquisition target, as well as your own personal tax returns.