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Jay Jacobowitz, Retail Insights

For those of you not already familiar with Jay, he is the President and Founder of Retail Insights, a professional consulting company advising natural industry retailers and supply-side clients since 1998. With its annual publication of the U.S. Retail Universe for Premium Natural Organic Food, Supplement and Personal Care Sales, Retail Insights is considered the premier source for natural market-share data for grocers and other retailers of natural products throughout the U.S. Jay also specializes in mergers and acquisitions, valuations, and succession planning. He has received the Industry Champion Award from the Natural Products Association (NPA), among other awards. 

These questions should help readers get both practical insights and nuanced commentary beyond what’s covered in the article itself. 

General Valuation Principles 

Jacobowitz: Valuing an independently owned health-food retail store may be more difficult because of the lack of comparable businesses that have sold recently. 

Tips: In your experience, which I know is considerable, what valuation mistakes do first-time store owners make most often? 

Jacobowitz: If valuing for a sale, first-time owners often overvalue their store, equating longevity in the business with value instead of the cash flow-generating potential of the business. 

Tips: Why is valuation important even for owners who are not planning to sell immediately? 

Jacobowitz: Having a realistic idea of the eventual value of their store can be a wakeup call highlighting aspects of the business that need attention to add value. 

Tips: How much subjectivity is involved in retail-store valuations? 

Jacobowitz: A lot. Jules B. Kroll, the acknowledged pioneer of modern business valuation practices, has said that valuations can vary by 50% depending on the criteria used and perspective of the valuator. 

Valuation Methods 

Tips: My earlier article outlines three valuation approaches: asset-based, income-based, and market-based. Which approach tends to carry the most weight in real-world transactions? 

Jacobowitz: In real-world transactions, the income-based approach carries the most weight. That is the future income-producing potential of the business rather than its assets, such as inventory. 

Tips: Under what circumstances would an asset-based valuation be more appropriate than an earnings-based valuation? 

Jacobowitz: An asset-based valuation would be more appropriate for a nuclear power plant or an AI data center due to the extremely high initial investment. 

Tips: How reliable are comparable-sales methods in niche retail sectors like health-food stores? 

Jacobowitz: Not very. Especially with a single, independently owned store, which will likely have few comparable examples nearby or that were recently transacted. 

Tips: Do professional appraisers need to reconcile any large differences between valuation methods? 

Jacobowitz: Fitting the valuation method to the nature of the asset will eliminate the need to reconcile differences between valuation methods. Since inventory turnover is the main driver of profits, the discounted cash-flow method is most appropriate for retail food stores, rather than an asset-based or other approach, for example. 

Seller’s Discretionary Earnings (SDE) 

Tips: The article emphasizes Seller’s Discretionary Earnings. Why is SDE so important for small retail businesses? 

Jacobowitz: SDE is important because an owner has tremendous discretion including or excluding expenses not directly related to operating the business. Removing discretionary non-operating expenses reveals the pure cash-generating potential of business operations. 

Tips: What are the most common “add-backs” that sellers attempt to justify? 

Jacobowitz: Just a few common examples of add-backs include a vehicle expensed but not primarily used for the business; excess owner salary not related to operating duties; and removal of inventory for personal use. 

Tips: How can buyers distinguish legitimate add-backs from inflated adjustments? 

Jacobowitz: Evaluate each one individually for fair value, such as the market replacement cost of the owner’s direct operating duties to isolate excess compensation. 

Tips: What warning signs suggest that a store’s reported earnings may not actually reflect operational reality? 

Jacobowitz: There are many. Is there a regularly scheduled profit and loss statement? Does the balance sheet tie out total assets with total liabilities and equity? Is inventory value recent? 

Inventory and Product Mix 

Tips: Why is inventory valuation particularly complex in health-food retail?  

Jacobowitz: Inventory valuation is complex for several reasons: the variability in expiration dates, with expirations for fresh produce measured in days, and vitamins and supplements measured in years; if no physical inventory has been taken recently; or if the point-of-sale system is the only measure of inventory value. 

Tips: How do expiration dates and slow-moving products affect business value?  

Jacobowitz: Short-dated inventory should be discounted more heavily than products with multi-year expiration dates. Slow-moving products should be discounted to match the time to expiration. 

Tips: What inventory-management metrics do sophisticated buyers examine first? 

Jacobowitz: Sophisticated buyers examine inventory turns by product category, and total company inventory turns that align with the overall velocity of the assortment. For example, a vitamin-supplement store will have a slower inventory turn than a Whole Foods Market-type store that has an emphasis on fresh perishables. 

Tips: How much does product mix influence valuation multiples? 

Jacobowitz: The product mix is not directly related to valuation multiples. Rather, it is the industry segment, its risk profile, and the cash flow generating capacity of the business that matter most. 

Tips: Are supplement-heavy stores generally more valuable than produce-heavy stores due to margins? 

Jacobowitz: Per dollar of sales, yes. In other words, a vitamin-and-supplement store will typically have a higher net profit percentage than a high-perishables food store. But, offsetting this is the higher gross sales-generating capacity of the fresh-foods store compared to a vitamin-focused retailer. So, actual net dollars of a fresh-foods store may dwarf the net dollars of a vitamin store. 

Intangibles 

Tips: My article discusses goodwill and community presence. How do appraisers quantify intangible assets like customer loyalty? 

Jacobowitz: Goodwill and community presence are stability factors in adding confidence to projected growth of future earnings. 

Tips: Can strong social-media engagement materially increase a store’s valuation? 

Jacobowitz: Yes, social-media presence is a proxy for goodwill and community presence and can support projections of future earnings growth. 

Tips: What role does brand reputation play in determining valuation multiples? 

Jacobowitz: Brand reputation is also a factor in goodwill and community presence. A strong brand will support projections for growth of future earnings. 

Tips: How important are loyalty programs and customer analytics during due diligence? 

Jacobowitz: Loyalty programs often have liabilities owed to members. Another related factor is gift cards, which also can have astonishingly high unredeemed value, something buyer and seller must negotiate. 

Location & Market Dynamics 

Tips: How heavily does location influence the valuation of a health-food retailer?  

Jacobowitz: Location can enhance or detract from the valuation. If there are risks to the location, such as unfavorable business adjacencies or future competing demands on parking capacity, this can suppress the growth of future earnings. 

Tips: What neighborhood characteristics tend to increase store value? 

Jacobowitz: Ease of vehicle ingress and egress, neighborhood walkability, year-round seasonable weather, and personal safety all can enhance store value. 

Tips: How do lease terms affect valuation? 

Jacobowitz: A short-term lease detracts from value while a long-term lease with extra option periods exercisable by the tenant adds value, provided the rents in the option periods are pre-defined. An automatic periodic inflation rent-escalation clause will reduce value. Restrictive covenants to product assortment will reduce value, to name a few. 

Tips: Can a poor lease agreement significantly reduce an otherwise profitable store’s worth? 

Jacobowitz: Yes, a poorly constructed lease can easily kill a deal. 

E-Commerce and Omnichannel Retail 

Tips: My article mentions online ordering and delivery integration. How much additional value does e-commerce add today? 

Jacobowitz: For a small independent, e-commerce likely reduces value due to its costs. Also, e-commerce outsourced to third-party fulfillment and delivery platforms dilutes the control and consistency of service enjoyed by the owner. 

Tips: Are hybrid retail models now expected by buyers? 

Jacobowitz: More so than pre-internet, but these may or may not be important to an acquirer. 

Tips: How are valuations changing as more natural-products retailers develop online revenue streams? 

Jacobowitz: For a small independent, any online revenue stream is likely to be less profitable than products sold in-store, so it would generally reduce valuations. 

Financial Metrics 

Tips: Which financial metrics matter most to buyers: gross margin, sales per square foot, or inventory turnover? 

Jacobowitz: A savvy buyer will focus on inventory turnover, since this is the main determinant of a food retail store’s efficiency and income-generating capacity. For example, when a Coop in Brooklyn wanted to double its space from 4,000 square feet to 8,000 square feet, it went to the bank for a loan. But the banker was floored when he learned that the Coop’s inventory, normally a use-of-funds by a store, was instead—because of the Coop’s seven-day turnover and 30-day payment terms—a source of funds! 

Tips: What level of same-store sales growth signals a healthy business? 

Jacobowitz: Something equaling or exceeding the rate of inflation in the products it sells. 

Tips: How do buyers evaluate cash-flow stability in smaller retail operations? 

Jacobowitz: Buyers can evaluate cash-flow stability in smaller retail operations by reviewing up to five years’ profit and loss statements and the current balance sheet. 

Tips: Are there any common obstacles that that would prevent the buyer and seller from agreeing on a business value? 

Jacobowitz: A main obstacle to reaching agreement on value is the depreciated book value of furniture, fixtures and equipment [FF&E]. Typically, in these legacy independent stores, the owner/founder bought FF&E once, then just replaced as things broke down. There isn’t usually a capital expenditures budget with timed updating. A savvy buyer will want to recapture foregone depreciation, lowering the value of the business. Leasehold improvements don’t often need updating, so are not the issue that FF&E are. 

Tips: What financial trends immediately raise red flags during due diligence? 

Jacobowitz: Some red flags include cost of goods percentages increasing, while gross profit margins decrease; spikes in expenses, especially compensation costs; and decreasing trends in net profit margins. 

Buyer and Seller Strategy 

Tips: What steps can store owners take 12–24 months before a sale to improve valuation? 

Jacobowitz: Take a physical inventory. Ask an independent accountant—not the one you currently use—to review the store’s financials, including profit and loss statements and balance sheet. Try to align expense percentages with industry standards for compensation, marketing, and wholesale inventory purchases. 

Tips: Which operational improvements produce the greatest increase in business value? 

Jacobowitz: The single biggest operating expense is compensation. In longstanding stores under the same owner, many employees have attained above-market compensation due to their longevity. Allowing some natural attrition to occur without replacing that person can help. Scheduling to the job rather than the person (a whole separate discussion) is also helpful. 

Tips: How important is “cleaning up the books” before selling? 

Jacobowitz: It is essential. And, in some cases, establishing books! 

Tips: What negotiation strategies do experienced buyers use during acquisition discussions? 

Jacobowitz: Being a “no-wanter,” willing to walk away from a deal, creates leverage, although not liking. Asking for favorable terms that include the seller taking back a portion of the sales price in a note paid over time. In situations where it is hard to verify the sales of the business, asking to stand at the register for a week to observe sales flow. 

Tips: How common are earn-outs in retail-store transactions? 

Jacobowitz: Not common, and not desirable. 

Industry Trends and Outlook 

Tips: How are changing consumer-trends affecting health-food retail valuations? 

Jacobowitz: Increasing awareness of the connection between diet and health, along with the profound changes in consumption due to GLP-1-type treatments, should accelerate visits to independent health-food stores, supporting more robust valuations. 

Tips: Are independent health-food stores becoming more or less attractive to buyers? 

Jacobowitz: The longstanding incumbents who’ve remained agile and dynamic, and who’ve developed high gross and net sales, are an attractive asset. Stores that have stagnated are less attractive. 

Tips: How does competition from chains like Whole Foods Market impact independent store valuations? 

Jacobowitz: Stores proximate to large competitors such as Whole Foods Market that are able to show a pattern of resilience and growth will enjoy stronger valuations. 

Tips: Do you expect consolidation in the health-food retail sector to continue? 

Jacobowitz: Yes, although with each independent retailer being unique and the sector being fairly spread out geographically, consolidation will not be overwhelming, or perhaps even noticeable.  

Tips: How are luxury and experience-focused grocery trends influencing valuations? 

Jacobowitz: If a luxury-focused retailer is located in an upscale market, this congruity will support a robust valuation. An experience-focused grocer can be located in many different socio-economic trade areas, and if well done, will enjoy an enhanced valuation. 

Risk and Due Diligence 

Tips: What are the biggest hidden risks buyers overlook when purchasing health-food stores? 

Jacobowitz: Any environmental factors, such as former use by a dry cleaners, can be an unforeseen and unmitigable risk. Buying the corporation rather than just certain assets can mask liabilities of the corporation. Future development of proximate properties, such as a high-volume restaurant that requires lots of parking, can materially affect future income producing capacity. Also, one of the seller pitfalls along with gift cards is accrued vacation time. If they’ve let employees accumulate year-to-year, the liability could be crushing. 

Tips: How important is supplier diversification? 

Jacobowitz: With only a few available primary major wholesalers, an independent retailer has little choice but to use one or more of these for a large plurality or even an outright majority of wholesale purchases. Offsetting this is developing a large portfolio of secondary suppliers with unique products. 

Tips: My article warns against relying too heavily on one customer or sales channel. How does concentration risk affect valuation? 

Jacobowitz: Most independent, natural organic retailers do not have exposure to a concentration of customers, with any single customer accounting for more than one percent of sales.  

Tips: What legal or regulatory risks are unique to health-food retail businesses? 

Jacobowitz: Our industry is governed largely by the U.S. Food and Drug Administration (FDA), which oversees foods and dietary ingredients. Against this is the pharmaceutical industry, also overseen by FDA, and whose interest and history has been to attempt to suppress and limit the natural organic industry’s ability to market its products. In addition, State-level attempts to curtail the sales of certain natural-product categories such as weight loss or bodybuilding, are a constant threat requiring consistent and coordinated vigilance. 

Professional Appraisal and Ethics 

Tips: What qualifications should owners look for when hiring a business appraiser? 

Jacobowitz: An appraiser should have made a study of valuation methods, and be willing to provide references. There are also organizations such as the American Society of Appraisers and National Association of Valuation Analysts that certify their member-appraisers. 

Tips: How important is transparency and integrity during the valuation process? 

Jacobowitz: As in life, transparency and integrity are indispensable. 

Tips: What separates a high-quality valuation report from a superficial one? 

Jacobowitz: A high-quality valuation report will cite references, explain and justify valuation methodology, and provide support for the subjective portions of the valuation. Also, a good report will have ample discussion that provides context, color, and interpretation separate from the pure financial analysis. 

Closing / Reflections 

Tips: What’s the most surprising factor that has dramatically increased or decreased a retail store’s value in your experience? 

Jacobowitz: Having a business strategy and physical space that aligns with an acquirer’s business model can supercharge valuation multiples. Externalities, such as environmental liabilities, that cannot be remedied, can kill a deal. 

Tips: If you could give one piece of advice to independent health-food store owners preparing for a future sale, what would it be? 

Jacobowitz: While the significant amount of time and energy you have put into your business over the years may make you feel entitled to value, unless it has translated into superior operating results, you are likely to be disappointed.  

Tips: What trends do you believe will most shape retail-business valuations over the next decade? 

Jacobowitz: Trends to watch over the next decade include the emerging desire of the youngest generations for physical interaction, and rejection of exclusive digital absorption. Another trend to watch is the emerging realization and increasing value of achieving and maintaining resilience through diet, promoted and accelerated through contact with a knowledgeable independent natural organic retailer. WF 

For more from Jay on the increased spotlight on the natural products industry, don't miss GLP-1 and “The Great Dietary Awakening.”