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Glossary of Business Terms
Business terms that are commonly used when buying or selling a business.

   
 

Accounting Period

The period of time over which a business's income and expense statement summarizes changes (usually based on a fiscal year).

Accounts Payable

An obligation by a business to pay an amount to a vendor or other creditor for goods and services purchased on credit.

Accounts Receivable

A financial claim by a business against a customer arising from a sale of goods or services on credit. One measure of the health of a business is how fast customers pay off their accounts. Less that 30 days is good, 30 to 60 days may be okay, and over 60 days could be a problem.

Accrued Interest

Unpaid interest to date on a note or mortgage.

Accumulated Depreciation

The total depreciation of an asset that has been charged as an expense to date.

Adjusted Net Income

This figure is equivalent to a real world estimate of income. ANI includes an adjustment for the inevitable depreciation (and occasional appreciation) of assets.

Agreement in Principle

A preliminary agreement reached between the buyer and seller of a business that outlines the general terms under which more detailed negotiations will be undertaken.

Allocation of Purchase Price

In an asset sale, the purchase price must be allocated to certain assets; the balance is goodwill.

Amortization

A spreading out of costs over a period of time similar to depreciation. For example, it can be a reduction in a debt or fund by periodic payments covering interest and part of the principal over a period of time. It is different from depreciation in that depreciation usually refers to physical things where amortization applies to things that expire (mortgages, patents, etc.).

Amortization Schedule

A tabular presentation of the reduction in value of something being amortized.

Arms-Length Buyer

Any person, corporation, or other entity with whom you deal regarding the sale of your business and who has no prior financial or family involvement with you.

Asset Sale

Purchase of certain assets and/or liabilities, leaving the seller the remainder as well as the corporate entity.


Asset-Based Lenders

Commercial lenders who are willing to take on more risk than commercial banks, lending against accounts receivable and inventory and being subordinate to commercial banks.


Auction

When the seller and/or its intermediary orchestrates the selling process by encouraging buyers to bid and rebid until the highest and best offer is received.

Balance Sheet

A statement showing the nature and amount of a business's assets, liabilities, and equity on a given date. In dollar amounts, the balance sheet shows what the business owned, what it owed, and the ownership interest in the company of its owners.

Book Value

Also known as net worth, the figure derived by deducting all the liabilities from all the assets.


Book Value (of a Business)

The book value of a business is determined from the financial records, by adding the current value of all assets (generally excluding such intangibles as goodwill), then deducting all debts and other liabilities. Book value of the business may have little or no significant to relationship to actual market value due to depreciation and lack of consideration for goodwill (intangible assets).


Book Value (of an Asset)

The accounting value of an asset shown on the balance sheet that is the original cost of the asset less its accumulated depreciation. Keep in mind that this value may have little or no relationship to the real market value of the asset. Frequently, depreciation expenses are charged much faster that the actual decline in the asset's value.


Bridge Loan

A temporary loan to cover the financing shortfall of the acquisition until permanent funding is available.


Bulk Transfer

Article 6 of the Uniform Commercial Code regulates the bulk transfer through the sale or ownership change of a large portion (usually greater than 50%) of a business's inventory, material, supplies, merchandise, and equipment. Requirements include the advance notification of creditors of the impending sale of a business and its assets listed above to prevent fraud. Provisions in each state are somewhat different so check your local statutes.


Business Plan

A written plan detailing a business's sales projections, expenses, marketing strategy, and objectives. A business plan is of great importance to anyone in business, but of paramount importance to anyone buying or starting a business. You will never get there if you don't know where you are going.

C Corporation

Entity or organization created by operation of law with rights of doing business essentially the same as those of an individual. The entity has continuous existence regardless of that of its owners and generally limits liability of owners to the amount invested in the organization. The entity ceases to exist only if dissolved according to proper legal process. It is easily transferred and has an unlimited life.

Capitalization Rate

The conversion of income into value as part of the valuation process by the application of a capitalization factor ( any multiplies or divisor used to convert income to value).


Cash Cow

A business that has a steady cash flow, but whose earnings have remained nearly the same for the past five years, showing little growth.


Cash Flow

The amount of money left over after the cost of goods sold and general, selling, and administrative expenses, but before interest depreciation, taxes, and amortization.

Closing

The process of legally completing the purchase and sale of a business by exchanging asset titles. stock certificates, cash, and promissory notes.


Collateral

Property pledged by a borrower to protect the interests of the lender. Bank loans are often collateralized or secured by the company's accounts receivables, inventory, and/or equipment.


Commission

The negotiated fee, usually a percentage of the purchase and sale price of the total business cost, earned by a business broker for facilitating the sale of a business. Usually the value of the inventory and other non capitalized assets are excluded from the calculation of the commission.


Confidentiality

The provision of proprietary information by one party to another for that party's exclusive use, with a prohibition against passing it on to others.


Contingent

Dependent on or conditioned by something else. For example, the price established for the business may vary depending on some future event.

Contingent Payments

Future financial obligations that are dependent on contractual events taking place.


Cost of Good Sold

The price paid for the merchandise which has been sold by a business; beginning inventory plus net purchases minus ending inventory equals cost of goods sold.

Covenant Not To Compete

An agreement given by the seller of a business to the business buyer to not compete in that or a similar business for a specified period of time, and within a specified geographic area.

Covenants

Binding agreements between the buyer and the seller that restrict each party from taking certain actions, particularly during the letter of intent period and closing.

Deal Flow

A stream of potential business acquisitions moving across your desk in a quantity that allows you to select the few that meet your criteria.


Debt Service

This is the payment of principal and interest required on a debt (usually a loan or mortgage) over a specified period of time and interest rate.

Depreciation

Charges against earnings to write off the cost, less salvage value, of an asset over its estimated useful life. It is a bookkeeping entry for accounting and tax purposes and does not represent cash outlay.


Draw, Owners

Sometime the owner of a small business (sole proprietorship or closely-held corporation) will take income as a draw as opposed to a salary. The terms are essentially the same except that generally a salary means that all withholding taxes, FICA, etc., are accounted for on the books of the business, whereas draw is straight cash to the owner who pays all tax obligations separately on a personal income tax return.

Due Diligence

The investigation of the other party's business practices in an attempt to uncover previously unknown information.

Earnout

A part of the purchase price that is dependent on a future performance variable, such as profits or sales.


Employment Agreement

This is an agreement whereby key employees agree to remain with the business for a specified period of time under certain conditions.

Escrow

Money that is delivered to a third party and held on deposit until the party to receive it fulfills certain conditions.


Fair Market Value

What the assets would most likely sell for in the open market; this is often determined by a professional appraiser.

FFE

Furniture, Fixture, & Equipment.


Fictitious Name

A name frequently used by sole proprietors or partnerships to provide business name, other than those of the owners or partners, under which the business will operate. Also known as the trades name and that "doing business as" (d/b/a) name.


FIFO

The first-in/first-out method of inventory accounting that assumes that goods that enter the inventory first are the first to be sold.


Fiscal Year

The annual accounting period selected by a business to best correspond to its operations. A fiscal year can correspond to a normal calendar year or begin/end anywhere in between, e.g.; the federal government's fiscal year begins October 1 and ends September 30.


Franchise

A form of business organization in which the franchisor (the primary company) provides to a franchisse (the local business) a market tested business package involving a product or service. The franchisse operates under the franchiser's trade name and markets goods and/or services in accordance with a contractual agreement.


Going Concern

Any business that is operated in an active, for profit way that creates value beyond the company's assets.


Goodwill

The collection of intangible assets represented in dollars by the difference between the total purchase price for the business and the net value of the tangible assets being purchased.


Gross Revenues

Any positive cash flow that enter a business. Gross revenues do not take expenses into account, and are therefore not the most highly recommended figure to extrapolate a business’s value from.

Holdback Provision

In the purchase and sale agreement, a provision stating that if a buyer winds up having to pay a debt that the seller did not disclose, it will be paid from an amount that was held back at closing and placed in an escrow account.

Income and Expense Statement

A summary of a business's revenues, expenses, and profits for a specific period of time, usually for a full fiscal year.

Indemnification

Exemption for the buyer from incurred penalties or liabilities after the closing as a result of incomplete representations and warranties of the seller.

Intangibles

Assets that are not physical, such as licenses, franchises, trademarks, customer lists, unpatented technology, etc.


Intermediary

An agent who is a mergers and acquisitions consultant to the buyer or seller and is expected to facilitate the transaction.


Investment Banker

An intermediary who often provides additional services such as bridge loans or underwritings.


Lease

The agreement between parties for the rent of a particular asset (real estate, automobile, equipment, etc.).


Leasehold Improvements

Usually refers to the improvements made by a lessee to a lessor's property. Generally, leasehold improvements may be capitalized by a business and depreciated against income, but ownership reverts to the lessor upon completion of the lease.


Lehman Formula

The industry standard commission rate, which is a sliding scale, i.e., 5-4-3-2-1 percent on each successive million dollars of the purchase price.


Letter of Intent

A preliminary offer to purchase a business, usually non binding, which if accepted by the seller leads to the drafting of a purchase and sale agreement.


Lien

A charge or hold on assets, usually by a creditor until indebtedness is satisfied.


Liquidation Value

The market value of a business's tangible assets minus its liabilities under a forced sale.


M & A

An acronym for mergers and acquisitions.


Middle Market

Companies with sales between $2 million and $150 million.


Multiples

An abbreviated terminology for capitalization rates.

Net Present Value

Money paid out in the future discounted at the opportunity cost of capital for a similar risk over the specified period of time.

Note, Promissory

A written promise to repay a loan. Usually a key part of a business sale. Normally written from the buyer to the seller for a period of 5-10 years.

Off-Balance Sheet Items

Unrecorded obligations such as repurchase agreements, pending lawsuits; and unfunded pensions.


Overhead

Method of allocation all non-labor costs to the various products manufactured or services performed.


Partnership

A legal business association of two or more persons co-owning a business and sharing in the profits and losses. Although there are several kinds of partnerships, the tow most common are, general and limited partnerships.


Perquisites (Perks)

Elements of compensation in addition to a regular salary, such as the use of a company automobile, country club membership, entertainment allowance, etc.


Pro Forma

A set of projected financial statements which usually includes: income and expense statements, cash flow projections, and balance sheets. Generally, in a purchase and sale of a business, a seller prepares an optimistic pro forma statement. The buyer should ensure that a realistic pro forma is used as part of the business plan for the newly acquired business.


Profit

All positive cash flow, minus any direct expenses made to generate said revenue. In Europe, profit is not synonymous with income, although in the USA it is.


Profit and Loss Statement

The same as the income and expense statement.

Promissory Note

A written promise to pay a sum of money at a specified future date in accordance with a predetermined interest rate and payment schedule.


Recast

Reconstruction of the financial's to reflect what the income statement would be without excessive salaries and perks.


Representations and Warranties

Indemnifications and covenants written into the purchase and sale agreement that provide factual information that is important to protect the buyer in the event of future problems.


Return on Investment

The annual income that an investment earns. Usually expressed as a percentage relative to the purchase and sale of a business.

ROI, ROE

Return on investment and return on equity; they must begreater that the cost of capital in order to create shareholder value.

S Corporation

An unaffiliated corporation owned by thirty-five or fewer individuals in which the profits flow to the individuals without a corporate tax being imposed.

Seller Financing

A situation in which the seller extends his or her own notes to the buyer in lieu of paying all cash at closing or obtaining other debt financing, such as bank loans.

SIC Code

Abbreviation for Standard Industry Code, a numerical categorization of industries. Most business directories, manufacturing or service, are organized by geography and SIC code.


Simple Interest

Interest on principal only, as compared to compound interest which is interest on both principal and accumulated interest.

Skimming

The business owner's personally taking money "off the top" of company revenue stream.


Sole Proprietorship

A form of business owned by one person who is responsible for the entire business operations and liabilities.

Stock Sale

Purchase of the company's shares of stock; the buyer then assumes all the assets and all the debt, both tangible and intangible.


Sub-Chapter S Corporation

The IRS designation for a small corporation that offers the same liability limitations as a C corporation, but does not pay corporate taxes. Taxes on company profits and losses are paid by the individual shareholders in proportion to their ownership.

Tombstones

The details of a business sale transaction brokered by investment bankers and other intermediaries.

Valuation

The formal process of estimating the worth of a business.

Walk Away Price

The highest price that a buyer will offer.

Working Capital

The readily convertible capital required in a business to permit the regular carrying forward of operations free from financial

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