How much is my business worth? That depends. Of course it depends on profits, sales, EBITDA, and other traditional valuation metrics. A surprisingly important factor, however, is how you choose to sell it. If your business is larger, complex, unusual, strategic, with a high component of intellectual property or technology and subject to a broad interpretation of value in the marketplace then how you choose to sell it can result in swings of literally millions of dollars in transaction value. The Graph above attempts to illustrate this concept:
The
way to achieve the most value from the sale of your company is to get several
strategic buyers all competing in a soft auction process. That is the holy
grail of company valuation. There are several exit or value options. Let's
examine each one starting with the lowest which is liquidation value.
Liquidation Value – This is basically
the sale of the hard assets of the business as it ceases to be a going
concern. No value is given for good
will, brand name, customer lists, or company earnings capability. This is a sad
way to exit a business that you spent twenty years building. This method of
selling often occurs when the owner has a debilitating health issue or dies and
his estate is forced to sell.
Book Value - is simply an
accounting treatment of the physical assets. Book value is generally not even
close to the true value of a business. It only accounts for the depreciated
value of physical assets and does not take into account such things as earnings
power, proprietary technology, competitive advantage, growth rate, and many
other important factors. In case you are working on a shareholder agreement and
looking for a methodology for calculating a buy-out, Book value is a terrible
metric to use. A better approach would be a multiple of sales or EBITDA.
Minority shareholders often unknowingly sign shareholder agreements that
provide a book value buyout if the minority shareholder decides to cash out.
Unsolicited Offer to Buy from a Competitor – This is the next
step up in value. The best way I can describe the buyer mindset is that they
are hoping to get lucky and buy your company for a bargain price. If the
unsuspecting seller bites or makes a weak counter offer, the competitor gets a
great deal.
How should you handle
this situation so you do not have this outcome? We suggest that you do not let
an outside force determine your selling timeframe. However, we recognize that
everything is for sale at the right price. That is the right starting point.
Get the buyer to sign a confidentiality agreement. Provide income statement,
balance sheet and your yearly budget and forecast.
Determine the number
that you would accept as your purchase price and present that to the buyer. You
may put it like this, " We really were not considering selling our
company, but if you want us to consider going through the due diligence
process, we will need an offer of $6.5 million. If you are not prepared to give
us a LOI at that level, we are not going to entertain further
discussions."
A second approach
would be to ask for your number and if
they were willing to agree, then you would agree to begin the due diligence process.
If they were not, then you were going to engage your merger and acquisition
advisor and they would be welcome to participate in the process with the other
buyers that were brought into the competitive selling process.
Another
tactic from this bargain seeker it to propose a reasonable offer in a qualified
letter of intent and then embark on an exhaustive due diligence process. He
uncovers every little flaw in the target company and begins the process of
chipping away at value and lowering his original purchase offer. He is counting
on the seller simply wearing down since the seller has invested so much in the
process and accepting the significantly lower offer.
Buyer Introduced by
Seller's Professional Advisors – Unfortunately this is a commonly executed
yet flawed approach to maximizing the seller's transaction value. The seller
confides in his banker, financial advisor, accountant, or attorney that he is
considering selling. The well-meaning advisor will often "know a client in
the same business" and will provide an introduction. This introduction often results in a bidding
process of only one buyer. That buyer has no motivation to offer anything but a
discounted price.
Valuation From a
Professional Valuation Firm – At about the midpoint in the value chain
is this view of business value. These valuations are often in response to a
need such as gift or estate taxes, setting up an ESOP, a divorce, insurance, or
estate planning. These valuations are conservative and are generally done
strictly by the numbers. These firms use several techniques, including comps,
rules of thumb, and discounted cash flow. These methods are not great in
accounting for strategic value factors such as key customers, intellectual
capital, or a competitive bidding process from several buyers.
Private Equity or
Financial Buyer
– In this environment of tight credit, the Private Equity Groups still have a
good amount of capital and need to invest in deals. The very large deals are
not currently getting done, but the lower middle market transactions are still
viable. The PEG's still have their roots as financial buyers and go strictly by
the numbers, and they have tightened the multiples they are willing to pay.
Where two years ago they would buy a bricks and mortar company for 6 ½ X EBITDA, they are now paying 5 X EBITDA.
Strategic Buyers in a
Bidding Process
– The Holy Grail of transaction value for business sellers is to have several
buyers that are actively seeking to acquire the target company. One of the
luckiest things that has happened in our client's favor as they were engaged in
selling their company was an announcement that a big company just acquired one
of the seller's competitors. All of a sudden our client became a strategic
prized target for the competitors of the buying company. If for no other reason
than to protect market share, these buyers come out of the woodwork with some
very aggressive offers.
This
principal holds as an M&A firm attempts to stimulate the same kind of
market dynamic. By positioning the seller as a potential strategic target of a
competitor, the other industry players often step up with attractive valuations
in a defensive posture.
Another
value driver that a good investment banker will employ is to establish a
strategic fit between seller and buyer. The advisor will attempt to paint a
picture of 1 + 1 = 3 ½. Factors such as
eliminating duplication of function, cross selling each other's products into
the other's install base, using the seller's product to enhance the competitive
position of the buying company's key products, and extending the life of the
buyer's technology are examples of this artful positioning.
Of
course, the merger and acquisition teams of the buyers are conditioned to
deflect these approaches. However, they realize that their competitors are
getting the same presentation. They have to ask themselves, "Which of
these strategic platforms will resonate with their competitors' decision
makers?"
As
you can see, the value of your business can be subjectively interpreted depending
on the lenses through which it is viewed. The decision you make on how your
business is sold will determine how value is interpreted and can result in 20%,
30%, 40%, or even 100% differences in your sale proceeds.
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Dave Kauppi is a Merger and Acquisition Advisor and Managing Director of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology companies. To learn more about our services for technology business sellers click to visit our Web Site MidMarket Capital
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