Want a fun exercise? Try saying the words that comprise EBITDA as fast as you can, even just once. Earnings before interest, taxes, depreciation and amortization. By the second or third try, it sounds almost robotic.
Perhaps it’s appropriate, because we’re talking about cold, hard numbers here; a metric that helps provide great insight as to a business’ ability to generate cash flow. It also helps paint a clear picture as to a company’s operating performance, which makes it a critical element when it comes time to place a value on a prospective acquisition.
Even then, however, placing a value on a company can be somewhat of an inexact science. There are so many factors behind and in front of the numbers that can lead to a disagreement of where the final sale value should be pegged.
“That’s what gets thrown around in the industry, multiples of revenue or EBITDA,” noted Dan Ruhl, a principal with Oval Partners, the equity engine behind Flex Technology Group. “In the end, it’s so specific by company. The company’s organic growth rates has a lot to do with it, along with their reputation, the management team and the margins the business is at.”
Add in makeup of the customer base, customer retention and concentration, and the picture becomes clearer. Timing is another factor, according to Ruhl. A company’s trailing six months may be far superior to the past 12 because of new customers.
“I think it’s really dangerous for the business owners to start anchoring on multiples as it relates to their business,” he observed.
Beyond Numbers
RJ Young relies on a multiple of earnings, but the potential acquisition doesn’t exist in a vacuum, according to President and CEO Chip Crunk. How it meshes with his organization, and the ability to build upon the foundation, will be the ultimate motivation.
“It depends on the growth opportunity and depends on what additional economies of scale we can bring to the table,” he said. “A lot hinges on the potential we see for that business in the next three to five years. But in the end game, it’s really just a multiple of earnings.”
When it comes to earnings or EBITDA, not everyone likes to talk about the bottom line, according to Jeff Gau, CEO of Marco. But that’s what it’s all about.
“You can get to the number in different ways,” he said. “There’s addbacks or adjustments that take place, maybe synergies that can be gained by them selling to us, but here’s what it looks like. Number one, is it sustainable in being able to validate the sustainability of your EBITDA? Too many times, people have their best year the year they’re going to sell, and they’ve got this huge ramp-up. If you have a huge ramp-up and you’re cruising along at X, and when you decide to sell you go to X times three, you have to be able to validate it. Not just how you got there, but how you’re going to stay there. Vetting sustained EBITDA is really important.”
Other Intangibles
Gau adds that consideration may also be given to good leadership, particularly on the sales side. When companies come to the table with a good balance sheet and appropriate inventories, that provides insight into a well-run operation. Conversely, if a prospect needs extra time because information/data is not readily accessible, that also paints a picture…albeit not a complimentary one. Buildings, their appearance and functionality, also factor into the equation.
“A multiple will be applied based on the strength of their EBITDA, and the multiple has a bit of a range on it these days,” Gau said. “On the low side, it’s four to four and a half; on the high side it’s seven. People get numbers in their head, but it’s all about trying to validate what those earnings really look like. That’s probably the hardest part of the whole transaction, for both owner and buyer, to come to an agreement on that.”
Novatech tracks a number of variables when it devises the value of a prospect, including geography, size of the company, strength of the management team, makeup of the product line and services, and its customer base/MIF/concentrations, in addition to the financial performance.
For UBEO Business Services, geography plays a considerable role, according to Jim Sheffield, president
“There’s a range out there, and there can be special situations from time to time where people may pay a little bit more,” he said. “But I think everybody in the marketplace is about the same—four to six times is fairly accurate.”
