Anyone have experience valuing retail inventory?
September 29, 2020
by a searcher from Purdue University in Los Angeles, CA, USA
I'm working on a deal to acquire a niche retail shop, and in the initial offer we put forth in the LOI we had determined a price range for the inventory (no more than $300,000 and no less than $250,000), dependent on how much the owner actually had on hand at the time of closing and doing a tiered discounting system for anything older than 90 days, 180 days and 365+. The owner has higher levels of inventory right now but believes he can get it down to $300,000 by the time of closing. However, he is not able to provide the data to determine how old each item of inventory is - so we're not able to actually use the proposed tiered pricing system. I proposed using a seller note to finance the inventory portion of the total purchase price, and the owner is resistant and said the broker warned him to never do that for inventory.
So now I need to figure out how to assess the value of current inventory, without date of purchase information. I wanted to share some of my initial ideas for input from the community.
1) Use date of most recent time the product was obtained. They aren't able to provide the date each individual item in their inventory was purchased, but they do have the most recent date the product type was updated in the system (i.e., the last time someone added a new item to their inventory. However, if they currently have 5 of the same product, you have no way to tell if they purchased all 5 recently or just 1 and the other 4 are old). If we assume they're only continuing to order products that sell well, we could filter and get to the products that have been ordered in the past 90 days, 180 days and 365+.
2) Use average turn rates based on historical sales data. Another approach could be manually calculating average turn rates by product type or category by analyzing historical sales and compare that to the current inventory and use some sort avg days to turn range to apply tiered discounting prices (only pay 100% for items with an average turn rate of <90 days, and so on... this would be a pretty manual and tedious task to do, but could be done. The tricky part is that certain types of their products get really hot for a while or are the newest edition/latest technology and could have been selling within 1-2 days last year, but may be out of trend this year. And sometimes older items become even more valuable later if the particular piece or product part is no longer made by the manufacturer and becomes harder to find or considered a collector's item. My gut says the frequency and total value increase from those occurrences doesn't make up for the risk of buying an unknown amount of old, possibly unsellable inventory.
3) Offer to pay only $250,000 (min of the range) if they won't consider using a seller note for the inventory. If they want the full $300,000, we'd have to revisit seller note option and make the last $50K difference the variable amount. But I'd would still need a way to assess the inventory we pay $250K for is mostly good, sellable product - which could be using the last date the product type was added to their inventory (from option 1 above).
Appreciate any thoughts or recommendations. Thanks!
from IE Business School in Seattle, WA, USA
Let me start by saying that I'm assuming the inventory is non-perishable. If so I think some combination of your #1 idea along with Jason's suggestion to pay a lower amount and then a bonus (almost like an earn-out) if you're able to sell more of it. If you don't want to do an earn-out you could maybe do some sort of claw-back via an escrow account where any inventory in excess of $300k that hasn't sold within xx days gets deducted from what you paid the seller (either at 100% or some middle ground). If you do a physical sku count on the day of closing you will know exactly what's in the store, and by tracking what you buy and sell by sku for the next xx days you will know how much of the inventory you bought ended up not selling.
For what it's worth, in a previous corporate role I often had to oversee the transition when we acquired a gas station / convenience store. On the day of closing we would bring in a 3rd party inventory company (there are several, it's pretty common for retail chains to do periodic inventory counts) to do a sku by sku count of everything in the store. Our agreement was usually to pay for anything that was not expired, but because we were buying franchise sites & converting them to corporate sites there was often a significant amount of inventory###-###-#### % of skus) that wasn't on our approved sku list. A lot of those unapproved items often proved difficult to sell. Since we were a large corporation & could take the hit our policy was to take all of those unapproved items & sell them at a discount. Whatever didn't sell after 30 days was written off & donated or thrown away. My only recommendation when paying for inventory is to do it on a historical cost basis rather than any type of % of retail basis, because we used to see owners that would jack up the prices on all of the inventory shortly before closing date.
Good luck!
from Monash University in San Francisco, CA, USA
This seems to me like it'll be a lot of dead inventory (worthless).
My advice;
1. your turn rate idea is good and worth doing. anything more than 3-4 months worth of inventory is a problem
2. Pay a freelancer on upwork to grab prices for all items off ebay or amazon into a spreadsheet. If you have barcode numbers, this will take 10 seconds per product. Then create a spreadsheet where you discount the retail price by 30% (your margin etc). Then, you'll know the true value of that inventory.
1&2 combined should show you where inventory is
a) overvalued
b) worthless because it's only selling 1 per month and you have 100 units, so massively overstocked adn therefore should be discounted.