When considering buying or selling a business, one crucial aspect that must be taken into account is the inventory. In this post, I will delve into the various aspects of including inventory in the asking price and its impact on the overall deal. We’ll start with valuing it.
Before including inventory in the asking price, it’s essential to determine its value accurately. The value of inventory can be determined using one of the following methods:
a. Cost-Based Method: This method values inventory based on the actual cost of acquiring or producing it. It considers factors like purchase cost, production cost, shipping, and handling expenses.
b. Market-Based Method: This method values inventory based on its current market value. For products with fluctuating prices or perishable goods, this method may be more appropriate.
c. Net Realizable Value (NRV): NRV is the estimated selling price of inventory minus any additional costs, such as sales commissions or discounts. This method is often used for inventory that has an uncertain market value.
When selling a business, the inventory’s inclusion in the asking price depends on the negotiation between the buyer and the seller. There are two main approaches:
a. Inventory Included: In this scenario, the seller includes the entire inventory’s value in the asking price. This is common in businesses where inventory is a significant asset, such as retail stores. The advantage for the buyer is that they acquire a ready-to-operate business with stock on hand.
b. Inventory Excluded: Here, the inventory’s value is calculated separately and is not included in the asking price. Instead, it is added to the final purchase price, based on its value at the time of closing. This approach is often seen when the inventory’s value fluctuates frequently or when the inventory turnover is high.
For a fair and accurate valuation, both the buyer and the seller should conduct a physical inventory count before finalizing the deal. This process involves counting and verifying the quantity and condition of all items in stock. It helps identify any discrepancies between the recorded inventory and the actual stock on hand, ensuring transparency and preventing potential conflicts during the negotiation.
One last note, it is important to ensure that all aspects of inventory inclusion are well-documented in the purchase agreement. The agreement should clearly specify the value of the inventory, the method used for valuation, and how it will be treated in the deal. This documentation helps avoid misunderstandings and protects both parties’ interests.
