Question 1

A family limited partnership allows entrepreneurs to transfer their business to their children, however, the entrepreneur will forfeit all control over the business from that point forward.

Accepted Answer

A family limited partnership allows entrepreneurs to transfer their business to their children while maintaining some control over the business by serving as a general partner. The limited partners (the children) have a share in profits but do not have control over the business.

Question 2

An earn-out is an exit strategy in which an entrepreneur can increase his or her payout by actively participating in the business to make sure the company hits specific performance targets.

Accepted Answer

This is the definition of an earn-out strategy.

Question 3

FIFO, LIFO, and average costing are three frequently used techniques, but the most common methods use the cost of last purchase and the replacement value of the inventory.

Accepted Answer

The answer of FIFO, LIFO, and average costing are three...

Question 4

The adjusted balance sheet method of valuing a business changes the book value of net worth to reflect its actual market value.

Accepted Answer

The adjusted balance sheet method of valuation aims to reflect the true market value of a business rather than relying solely on book values. This is achieved by adjusting the reported assets and liabilities to reflect their fair value, which in turn changes the book value of net worth.

Question 5

The rate of return used to value a business is composed of the basic, risk-free return, an inflation premium, and the risk allowance for investing in the particular business.

Accepted Answer

This statement is true. The rate of return used to value a business consists of three components: the basic risk-free return, an inflation premium, and a risk allowance for investing in the particular business.

Question 6

Assessing the opportunity cost associated with the decision is not a valuable consideration when deciding to purchase a business.

Accepted Answer

Assessing the opportunity cost is an important consideration when deciding to purchase a business because it helps to determine the potential benefits and drawbacks of the decision in comparison to other options or investments that could be pursued instead.

Question 7

Owners who do not want to sell a business outright, but want to stay around for a while or surrender control gradually can use a restructuring strategy.

Accepted Answer

This statement is true. A restructuring strategy can involve changes to the ownership structure and management of a business, allowing owners to maintain involvement in the business while gradually transferring control to others.

Question 8

Under the capitalized earnings approach to valuing an existing business, most normal-risk businesses use a rate-of-return factor ranging from 20 to 25 percent.

Accepted Answer

The capitalized earnings approach to valuing an existing business uses a rate-of-return factor ranging from 20 to 25 percent for most normal-risk businesses.

Question 9

Neither the balance sheet method nor the adjusted balance sheet method of valuing a business considers the future earning power of the business.

Accepted Answer

Both methods of valuation focus on the assets and liabilities of the business and do not take into account its potential future earnings. Other methods, such as the income approach, are used to evaluate a business's earning power.

Question 10

Under the capitalized earnings approach to business valuation, firms with lower risk factors are more valuable than those with higher risk factors.

Accepted Answer

This is because a lower risk factor means a more predictable and stable future earnings stream, which makes the firm more attractive to investors and therefore more valuable in their eyes.

Question 11

The best method for determining a business's worth is the discounted future earnings approach.

Accepted Answer

The discounted future earnings approach is one method among several, such as market comparisons and asset-based approaches, and the best method can vary depending on the specific business and context.

Question 12

According to the discounted future earnings technique, a dollar earned in the future is worth more than a dollar earned today.

Accepted Answer

According to the discounted future earnings technique, a dollar earned today is worth more than a dollar earned in the future, as future earnings are discounted to reflect the time value of money and the uncertainty of future earnings.

Question 13

Under the capitalized earnings approach to business valuation, firms with higher risk factors are more valuable than those with lower risk factors.

Accepted Answer

This statement is incorrect. Under the capitalized earnings approach, firms with lower risk factors are more valuable than those with higher risk factors because they are deemed to have more stable future earnings.

Question 14

A business buyer should build his or her own pro forma income statement from an existing firm's accounting records and compare it to the same statement provided by the owner.

Accepted Answer

Building a pro forma income statement from existing accounting records can provide a more accurate picture of the business's financial performance and help identify any discrepancies or potential issues compared to the statement provided by the owner.

Question 15

A disadvantage of the market approach to valuing a business is the difficulty of finding similar companies for comparison.

Accepted Answer

The market approach to business valuation relies on comparing the subject business to similar companies that have been recently sold. However, finding truly comparable companies can be challenging, especially in niche industries or markets.

Question 16

A method of valuing a business that recognizes that a buyer is purchasing the future income (earning) potential is the earnings approach.

Accepted Answer

The earnings approach is a method of valuing a business based on its projected future earnings or income potential. It recognizes that a buyer is essentially purchasing the ability to generate income from the business over the long term. This approach takes into account factors like revenue, expenses, growth prospects, and other financial data to arrive at an estimated value for the business based on its expected future earnings.

Question 17

Next to picking the right buyer, planning the structure of a business sale is one of the most important decisions a seller can make.

Accepted Answer

Planning the structure of a business sale can have significant financial and tax implications for the seller, and can also impact the final sale price and terms of the transaction. Therefore, it is important to carefully consider and plan the structure of the sale in advance.

Question 18

The reliability of the discounted future earnings approach to valuing a business depends on making accurate forecasts of future earnings and on choosing a realistic present value rate.

Accepted Answer

The reliability of the discounted future earnings approach is highly dependent on accurate forecasting of future earnings and a realistic selection of present value rate.

Question 19

The discounted future earnings approach to valuing an existing business involves estimating the company's net income for several years into the future and then discounting those future earnings back to their present value.

Accepted Answer

This is a correct description of the discounted future earnings approach.

Question 20

Although selling the business outright is the cleanest exit path for an entrepreneur, it may have negative tax consequences, and it often excludes the option of "staying on" and exiting gradually.

Accepted Answer

Selling the business outright can have negative tax consequences and may not allow for a gradual exit.

Quiz 7: Buying an Existing Business