Early cash out value

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Topic Author
casualflower
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Early cash out value

Post by casualflower » Tue Jan 14, 2020 11:29 pm

What is the value of early cash out?

I sold a company. The balance of the payout agreement is $375,000 paid in equal installments quarterly over the next three years, then a final $55,000 payment at the end (January 2023). No interest is being charged on top of these amounts.

The purchaser of the company is interested in paying out the balance as a lump sum, with a discount.

How do I calculate what a reasonable discount is to get paid now?

For this question, ignore tax considerations. I do have a fine appreciation of those and will factor those in after. Also, assume the purchaser will continue to make all payments (ignore the risk of default). What else are factors?

Thanks,
CF

ExitStageLeft
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Re: Early cash out value

Post by ExitStageLeft » Wed Jan 15, 2020 2:18 pm

This is a Net Present Value calculation and is fairly straightforward. The only variable you need to identify is what is the discount rate?

It's not a trivial concept, and there are loads of web articles attempting to explain it. This one may be helpful: https://www.kitces.com/blog/net-present ... breakeven/

There is an Excel function NPV that allows you to calculate the Net Present Value. Using it and a 5% discount rate I get an NPV of $342,246.32. If you use a higher discount rate the NPV is lower. Here's a breakdown of NPV calcs:

Rate NPV
3% $354,839.79
5% $342,246.32
7% $330,283.01

Someone with their money in a bond fund might prefer a discount rate of 3%, whereas someone with their assets in stocks would likely use a much higher discount rate.

Jack FFR1846
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Re: Early cash out value

Post by Jack FFR1846 » Wed Jan 15, 2020 2:28 pm

This is called negotiation. There's no correct answer. What number would you take? What number would they pay? I've done this when selling some land that I bought and financed with the previous owner. When I found a buyer, I went to that previous owner and offered a lump sum and they accepted. The number isn't important....it's that you're happy with it and they're willing to pay it. You can certainly ask "What kind of number are you thinking?" and go from there.
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Topic Author
casualflower
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Re: Early cash out value

Post by casualflower » Wed Jan 15, 2020 3:43 pm

ExitStageLeft wrote:
Wed Jan 15, 2020 2:18 pm
This is a Net Present Value calculation and is fairly straightforward. The only variable you need to identify is what is the discount rate?

It's not a trivial concept, and there are loads of web articles attempting to explain it. This one may be helpful: https://www.kitces.com/blog/net-present ... breakeven/
Thanks, I'm looking at Kitces' analysis.

I think I'd go with 4%, slightly higher than a bond fund, but also add on 2% for inflation. A quick browse of Kitces doesn't mention inflation (as it seems to deal mostly with inflation-adjusted social security), but that seems a reasonable thing to take into account. So a 6% 'discount rate'. Which seems like a close cousin of opportunity cost?

I think I can plug each payment into a spread sheet and do a calculation to get the NPV for each individual quarterly payment and the final one and add them all up...

ExitStageLeft
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Re: Early cash out value

Post by ExitStageLeft » Wed Jan 15, 2020 3:52 pm

casualflower wrote:
Wed Jan 15, 2020 3:43 pm

I think I can plug each payment into a spread sheet and do a calculation to get the NPV for each individual quarterly payment and the final one and add them all up...
Using Excel, I input the rate in cell A1 and and a column of thirteen payments in cells A2 through 14. The formula for NPV looked like this:

Code: Select all

=NPV(A1/4,A2:A14)
You use Rate/4 to indicate quarterly payments.

I presume the discount rate is negotiable.

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Stinky
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Re: Early cash out value

Post by Stinky » Wed Jan 15, 2020 8:12 pm

Jack FFR1846 wrote:
Wed Jan 15, 2020 2:28 pm
This is called negotiation. There's no correct answer. What number would you take? What number would they pay?
I agree with Jack. There is no single “correct” answer.

If it was me, I’d ask the buyer to make the first offer, since he’s the one asking to go outside the terms of the agreement. Then, I’d check his offer to determine the PV rate, and negotiate from there.
It's a GREAT day to be alive - Travis Tritt

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