Mutliples Schmultiples:Understanding The Real Value Of Your Business
Quite often we find ourselves at local business events, where the topic frequently turns to stories of somebody selling for some kind of multiple. Comments almost immediately begin flying about how the transaction value as a multiple of something was high or low. Then the fun begins as you quietly ask yourself: “I wonder what my business is worth?”
When you are considering the value of your business, you can avoid the trap we call Multiple Schmultiples. Ever heard comments like these before?
“His business sold for nine times EBITDA (earnings before interest, taxes, depreciation and amortization).”
“They bought it for one and a half times sales.”
“They valued his company at two times book value.”
Quite often we find ourselves at local business events, where the topic frequently turns to stories of somebody selling for some kind of multiple. Comments almost immediately begin flying about how the transaction value as a multiple of something was high or low. Then the fun begins as you quietly ask yourself:
“I wonder what my business is worth?”
“My sales were X, so at that multiple I must be worth Y.”
“My business is better than that business, so I should get a lot more if I sell.”
Although these thoughts are tempting for all of us, they can make for an anxious time in any owner’s life. Let’s take a look at where these multiples come from and how useful they really are for you and your business.
Where Do These Multiples Come From?
Transaction multiples are nothing more than dividing a company’s market value or recent sale value by a common financial statement component such as sales, earnings or book value. It is a way of comparing company valuations across a spectrum of company sizes. Most public company values and financial data are as close as your favorite Web site, making access to this data fairly simple. Unfortunately, the competitive dynamics and risk factors inherent to most public companies are often substantially different than most closely held private companies, and make meaningful comparisons difficult.
For data on private company values, there are several proprietary transaction databases like Pratt Stats, BIZCOMPS and Merger Stat, accessible for a handsome annual fee. However, this data is far less comprehensive. Industry experts estimate that less than 50 percent of private company transactions are ever reported to these services. Even though the data may provide a limited representation of what other private companies have sold for, we should take a look “under the hood” at the data that drives this multiple discussion.
The Question Of Comparability
Since we have said multiples are used to compare companies of different sizes, it assumes the companies are comparable in all other material respects. For example, take a look at a recent client of our firm who was considering selling their company. They were aware of two companies in a similar market that had recently been sold, and they asked if we could provide any more details. Through the use of several transaction databases, we found lots of financial details and boiled them down into the core items. Since it looked like these companies were very similar in all the key areas, one would expect that they would have sold for similar multiples, yielding similar transaction values.
Company A sold for $100 million and Company B sold for only $20 million. Those multiples range from almost ten times EBITDA down to two times EBITDA. How could that be since they appear to be so similar?
We then searched the same databases for other companies that might also appear to be similar to our client’s business that have sold recently. Using our client’s SIC (Standard Industrial Classification) code (typically used as the standard for comparability), we located several companies and charted the results of their EBITDA multiples.
There were several non-financial factors involved in these transactions. Armed with the new information, often overlooked by the Multiple Schmultiple game, we jokingly asked our client, “Which multiple is right for you?” They answered, “Well, the highest one, of course.”
Using The Data Wisely
Although playing the multiple game without gaining much more insight into the comparability to your company, transaction data itself can be useful in many ways. Rather than getting caught in the Multiple Schmultiple game, expect your advisors to use the data to help you understand the answers to several key questions, including: What is the range of values in your sector to gain insight into what features of a company drive value for buyers in the space? Which companies are buying in a certain sector and why? What risks found in selling companies drive values lower? Are there many other valuable insights discoverable by professionals who deal with transactions daily?
Other Options To Understand Value
Now that you are armed with the challenges of the Multiple Schmultiple game, go ahead and play it, but only for fun, of course. Since other transactions in seemingly similar markets are difficult to compare to your business, where do you turn for better information regarding the value of your business?
Whether for strategic planning, succession planning or having thoughts of selling someday, there is real value in digging much deeper into features of your company that drive or detract from its value. Many local companies look to professional business valuations for invaluable insights into key areas that directly impact the value of their company. A professional business valuation should analyze a myriad of data well beyond your financial information and “comparable” multiples to help you better understand the value of your business. At the end of the day, their work should thoughtfully use the data to support opinions on two key questions about your business: How repeatable are the factors that drove your past performance? How reliable are the factors that drive your predictions for future performance?
Successful acquirers know these questions lie at the very core of your company’s value. However, focusing on them now increases the opportunity to achieve values at the high end of any range.