Sunday, July 15, 2012

What's the Business Worth? (Pt 3)

Part 3 in a Series on Buying a Salon

What Factors Affect a Salon's Worth?

The short answer is it's worth more than the buyer wants to pay, but less than the lesser thinks.

In all seriousness, salons are tricky to value because the value can be either in the business or in the seller. For example, I looked at a salon for sale where the salon owner's sales represented 80% of salon sales! In that case, she was the franchise player...there was no value in the business beyond her and if she left, there was really nothing - certainly no profit. And in that particular case, if the owner stayed on, she wanted to stay on as a booth renter. So she would pay, in our market, no more than $800 per month in rent but would keep 100% of her $8,000 monthly sales. Granted, she did a great job of building up her personal book of business - but she did not build up the business itself at all. In the end, she could not sell so she closed the doors and booth rented somewhere else.

Booth rental salons are another situation where the value is not so much in the business itself. As the owner of a booth rent salon, the business is actually landlording - you are renting space, not building a salon business. The client loyalty lies with the individual booth renters not with the salon, so if the renters leave, your revenue leaves. The likelihood of clients staying on and seeing a different stylist are minimal because they are there for their stylist not for the salon itself.

The key to building up salon value is to build a business with loyalty to the salon, not to specific service providers. I'm sure if you think about your particular market a few salons come to mind where clients go to that salon because of salon itself. The salon has built a name for itself based on the experience they deliver. A business like this is less vulnerable to revenue loss from turnover so it's less risky and therefore more valuable (all other things equal).

When valuing a salon the primary factor is Owner's Discretionary Earnings. This is the income available to the owner - it's your cash flow before you pay yourself or your loan payments. When you buy a business you are buying cash flow. A simple valuation will take the Owner's Discretionary Earnings and apply a multiple to it (two or three times cash flow is not unusual). Which multiple to use is critical and that's where other factors come in. If a business has ODE of $100,000 there's a big difference between 2 and 3 times earnings! Don't pay $300,000 for a business worth $200,000.

What other factors affect the value of a salon? Certainly you'll want to assess the facilities and location. It there adequate traffic and parking? Is the salon up-to-date or does it need a facelift? How much would renovations cost? Is the seller staying on or is the revenue they generated gone with the sale? What is the reputation of the business? Look for yelp reviews. No reviews? How well known is the business? Is there a website and a Facebook page? How well-done are they? Does the salon track key numbers like pre-booking, new client retention, retail percent, etc.? (Most don't). Are company policies in place or is it a free-for-all? Are the technicians well-trained? How vulnerable is the revenue stream? Which is more prominent - salon loyalty or technician loyalty? Are there outstanding gift cards that you will need to honor?

Use the answers to these questions to justify a higher or lower multiple when negotiating price.

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