Business Valuation - Transaction Advisory - Ownership Transition - Business Listings

Financial Consulting

Valuation Trends

I am often asked about valuation trends by business owners seeking to have their business valued for a variety of reasons from planning for ownership transition to contemplating selling their business. If you have read Cashman’s Comments before you know that I distrust earnings multiples in general, however they are useful as a sanity check when looking at the value of a particular business.

The Alliance of Merger & Acquisition Advisors has complied information from their members on nearly 700 business sale and recapitalization transactions in the lower middle market. The lower middle market is comprised of firms with an annual revenue generally in the range of $5 million to $50 million.

The Deal Multiples

82% of transactions were completed at less than a 7 multiple. There is a better than even chance that any random company in these size ranges will sell in the range of 3 to 6x EBITDA. There’s a 70% chance that it will sell for less than 6x EBITDA, and over an 80% chance that it will sell for less than 7x EBITDA.

This may run contrary to what you have heard about the market. Owners who believe their business should be worth a much higher multiple sometimes challenge us. Sometimes this is based on a multiple of sales, often 2-3 times. However, 44% of deals were less than $5M while 34% of companies had sales less than $5M. If a lot of transactions were being done at a multiple of even 2 times sales we should see a cluster of sales between $7 and $50 million, which we clearly do not. A far better measure of transaction size will be cash flow, of which EBITDA is a proxy measurement.

Effect of Deal Size on Multiple

The size and makeup of a transaction can also affect the EBITDA multiplier it receives in a transaction. All things being equal a larger company drive a larger deal, and will receive a higher EBITDA for a number of reasons:

 

You can see this same relationship below when we compare EBITDA multiples to revenue. There is a clear trend toward higher multiples for larger companies for much the same reasons as discussed above.

Drivers of High Multiples

Valuation multiples are usually driven by risk. The lower the perceived risk, the higher the cash flow multipliers that company will receive. Our job then is to figure out how we can reduce the risk factors that buyers of your business, internal or external would perceive.

Here are some risk factors, other than scale, that we might want to work on in your business:

 

Know the trends that have the most impact on what your company can get, based on industry, size and metric used. If you work on the drivers that influence valuation, you can make your business more attractive to the next generation of ownership.