by Wesley Legg
Unlike listed public companies, private businesses don’t get a daily ticker tape telling them what they’re worth. But imagine you did. Would that daily feedback from buyers and sellers make you think differently about how you operate your business? While I know public company CEO’s don’t always agree with the market’s perception, the good ones are focused on increasing value for their shareholders and know ultimately the ticker tape is the scorecard. Private owners would be wise to do the same.
Private company owners should focus on increasing enterprise value, not just the day-to-day bottom line. An enterprise value focus may sometimes negatively impact short-term profitability for the purpose of minimizing risk and increasing long-term profitability. For that reason enterprise value should be the focus, whether you plan on selling today, tomorrow, or never.
Valuing your company
I know, you still are curious about what your company is worth. Be leery of general rules of thumb or an internet tool that spits out your value after only a few questions. Determining valuation is very technical, but is also part art. A lot goes into valuing a company, and there are a lot of nuances. Most, but not all, companies trade on a multiple of EBITDA (Earnings before Interest, Depreciation and Amortization). Determining the EBITDA and the appropriate multiple is the trick. Companies can also trade on a multiple of revenue, asset value, or a combination of valuation techniques. A reputable and experienced M&A advisor, especially one with relevant industry expertise can usually give you a good idea of the valuation of your company. However, while an experienced professional can provide a good valuation opinion, the only way to know the true value of your company is to sell it and see what buyers are willing pay. And the only way to know to assure that you get the highest valuation for your company is to run a competitive market process. While it is helpful to understand the value of your company, it is more important, especially for those not intending to sell short-term, to understand how a buyer would go valuing your company. With this buyer perspective, you can better know how to increase the value of your company when and if you do decide to sell.
What Buyers Want
You may think what a buyer wants is obvious – growing company with good profitability. While that is part of the equation, it is not nearly that simple. A growing company with good profitability relative to what? An intelligent buyer is not going to be looking at your company in a vacuum. They will view your company alongside other opportunities, comparing the risk and expected returns of each one. The expected return is a function of the predicted future performance of the business and price paid to obtain the business. Said another way, the higher the risk to future performance the less a buyer will be willing to pay, if they want to buy the company at all. Also, not all buyers are the same. Expected returns can vary depending on the buyer’s perspective. In the case of a strategic buyer (versus financial buyer), expected returns can be higher if they expect to gain synergies in the acquisition, like lowering cost or leveraging their distribution.
Companies that provide a buyer with a lot of confidence in their future performance get a higher valuation relative to their peers, assuming all things equal (i.e. similar size and market external market conditions), and that they run a competitive market process. As you might expect, the past performance of the company and current financial metrics will be examined carefully when a buyer is considering purchasing a company, but there are many qualitative factors also being examined both consciously and even subconsciously. These qualitative factors include the quality of the management team, financial controls, market share, competitive advantages, customer diversification, the company’s market, the defensibility of the pro forma, quality of employees, documented processes and procedures, a solid strategic plan, just to name a few.
If you want to know how to increase the value of your company, you should seek to gain understanding on how buyers would view your company. Determine the current value enhancers and detractors, and understand what you can improve and/or change that would increase your value. Again, a reputable and experienced M&A advisor can give you great perspective on what buyers are looking for when purchasing companies like yours. They can do this because they talk to buyers on a daily basis, and whereas you may only do one or two major transactions in your lifetime, they do transactions for a living.