Business Value / Selling % a good move or not?

[ThePost]

Hello,

I'm interested in hearing from you guys about if you think it'd be wiser for me to sell or hold some shares of a company I own. I own 8% of the company, and have an option to sell 1% right now and I'm not sure if it's a good value or not.

- The company is in its first year this year
- The company has one major contract for all revenue which is signed for the next 6 years
- The company will dividend $2,000 per % this year.
- It is probable / strongly held view that the company will be more profitable next year and dividend between 3-4k per year. (But it might not of course)
- The company has other potential revenue streams which would likely be minor income compared to it's main contract
- The company could potentially be bought out a larger corporation

I have an option of selling 1% for $10,500. I think that this price is a bit low if the potential of the companys profits is as good as it seems, but if the potential of the profits is not likely to go up much then, it seems right close to being on the money. (5x profit)

Anyone have any additional insight?

Thanks!

[Sniper]

Your description of the company is somewhat vague, so its hard to judge.

Is it safe to assume this is a privately held company?

Can you provide more details on what the company is doing to make $, what industry or type of service, etc?

Did you get the 8% in exchange for sweat equity, or did you invest some $, or both?

Do you have a say in day to day management, are you on the board, or are you "in the background"?

How many other owners are there, and what are their allocations and involvement?

[DesertCat]

Snipers questions are very good to think about. One question is, are you in a control position, i.e can you influence or control the companies destiny, or are you a bystander. If you are a bystander, how do you feel about management, i.e. are they likely to treat you and your ownership stake well?

That will go a long way towards evaluating how risky it is to hold your shares.

Buffett doesn't do detailed discounted cash flow analysis, and neither do I. But like him, I often estimate them in my head. If you are to think about a reasonable dividend outcome based on your estimates as $18k (6 years at $3k a year, assuming you already got the $2k divi), you can think of your choice as taking $10.5k now, or $18k over time.

But $3k six years from now should be worth a great deal less than $3k to you. To estimate what it's worth, you come up with a discount rate. A discount rate is basically an interest rate you'd want in order to wait for the money. If you only looking at a risk free investment (i.e. U.S treasury bonds) your discount rate would be around 4.5% nowadys, cause that's what you can get from Treasuries, depending on the time frame.

Since it's private company and it's cash flows are far from assured, you'd want to use a much high discount rate to compensate, a high risk loan rate. For example if you think there is a 10% chance every year that the company will fail, you'd want a rate at at least 15% or higher.

For example, if you were to use 12%, according to the rule of 72 that would double an investment in 6 years. So you dividend of $3k would be worth about $1500 today. I'd use a higher rate than that. An 18% rate would mean your 4th year dividend is only worth half, and your sixth year only around $1000.

Plugin in your own numbers for estimated dividends and a reasonable discount rate to come up with an approximate value for what your shares are worth.

Then the other question you have to answer is, how diversified is your portfolio? Is this money very important? Because even if your DCF analysis tells you that $10.5k is a little on the cheap side, why not take some chips off the table esp. if it appears you won't have many options in the future to sell.

[Sniper]

Thx Cat... reading your post brought another basic question to mind...

Roughly what percentage of your total net worth, does this investment represent? (saying a little or a lot will do for an answer)

... and is your job (ie paycheck) tied to this company?

[ThePost]

I understand that it's hard to give a perfect answer with only some of the information about the situation. I appreciate the attempt though [img]/images/graemlins/smile.gif[/img]

- It is a privately held company
- The company has a service contract with the government (Would rather not get into more detail then that on here)
- Including my 8% half of the company is owned by people in my family. The 8% was basically a gift to me. The other half of the company is owned by someone who my family has had a working relationship with and who is knowledgeable in the field.
- I don't have the ability to make any decisions, but I am able to influence the decision making. Since the ownership base is small and trusted, the decision making isn't an issue for me.

The 10k would be a large percentage of my net worth.(I'm 24 years old) I have only a small amount in an Retirement fund (RRSP) and a few thousand in the bank. I also am buying a new home for 180k which I've put down 15% on already.

I'm starting to be in a comfortable position, but my 8% does account for a huge % of my effective net worth. Even though the company is not much of a risk to not be at least as profitable as it is now, It might be a good idea for me to diversify my portfolio. (Aka create a portfolio)

- The option to sell might could close up, but it could also become greater if other parties do indeed come forward. (Possibility)

- My paycheque currently is completely outside of this company


Thanks for some actual figures DesertCat, I was estimating the general depreciation of the money in 6 years, but it's helpful to have a more black & white analysis.

[Sniper]

Ok, you were gifted 8% of a 2-family owned business... is it safe to assume that the 1% you are considering selling, is being bought from you by either the person that gifted you the shares (or someone else in your family that already owns shares)?

If its not the person that gifted you the shares, I'm assuming you've already had a conversation with the person that gifted them to you?

As a side note, you can't just sell the shares to anyone, as they are likely restricted... in any event, you shouldn't sell shares to any 3rd party (unless this was done by the entire current ownership) and most especially not to the "other family" (switching the relationship from 50-50 to 51-49)

[ThePost]

Right, I've discussed the sale of my 1% with everyone involved and it is okay. I couldn't sell any shares without everyone agreeing and for sure the 3rd party sales would be a company wide deal and not on my own. Thanks for the heads up just in case though

[BradleyT]

A) Keep the share and get $2,000 this year and $3,000 next year.
B) Take the $10,000 and try to get $5,000 return in 2 years.

Where are you going to put that $10,000 where it can work harder for you than keeping it in choice A?

[midas]

The Post:

Based on the fact that this is a growing company and you really don't need the money at this time, you should hold this investment.

[DesertCat]

[ QUOTE ]
A) Keep the share and get $2,000 this year and $3,000 next year.
B) Take the $10,000 and try to get $5,000 return in 2 years.

Where are you going to put that $10,000 where it can work harder for you than keeping it in choice A?

[/ QUOTE ]

I disagree with this (a little). A bird in hand is sometimes worth two in the bush, when the bird in hand is liquid and the two in the bush are, er, illiquid.

I've worked at several high tech startups. Whenever an employee had a chance to sell small fraction of their shares at a decent price and asked my opinion, I always recommended selling.

I'd say, if you sell 10% today, and your other 90% turn out to be worth $1M, you won't kill yourself because you didn't get $1.1M. But if the shares end up worthless, you'll be awfully glad you got something out of it when you could.

In this case, if the company is successful, and each 1% makes $5k over the next two years, that's $40k he'll make by holding. If he sells 1%, and invests it in CD's (making a grand in interest), he's reduced his best case income to $36k over those two years.

But his worst case scenario is much better. If the company goes out of business, he's got $10.5k instead of zero.

It all depends upon how much risk he sees. Not just going out of business risk, but underperforming risk so that the annual dividends are much lower than his present forecast.