Valuation is More Than Just a Multiple
One of the biggest mistakes business owners make when valuing their business is to rely only on industry multiples. Since our job at Artemis is to provide objective valuations for companies, I want to break down which factors influence a company’s valuation, as well as what business owners can do to increase the sale price of their business.
What influences a valuation? Risk, reward, and market dynamics
It is true that the value of your business is heavily influenced by how the market prices other companies in your industry. But industry multiples come in ranges for two big reasons. The first reason is that not every company is the same; some businesses command higher valuations because of more growth potential or less risk. The second reason is that multiples are a reflection of subjective, time-bound variables. You may be exiting at a time when the market has an unusually rosy or gloomy view of your industry, or you may have a buyer with a strategic incentive to pay more.
For example, let’s look at veterinary hospitals, an industry where many owners are borrowing big to expand their businesses. This dynamic has the potential to add fuel to any valuation debate.
According to The Business Reference Guide (the good starting point to check out perceived “rules of thumb”), vet hospitals sell for 3-5 times EBITDA. If you want to sell a vet business with $1 million EBITDA, the difference between a $3 million and $5 million valuation means a 66% increase in your exit price. That’s $2 million extra dollars in your pocket!
The valuation of a growing vet hospital could be influenced by the stability of annual profit, or how well their leadership team has evolved to manage new lines of business. The sale price could also be influenced by whether the market believes the recent increase in demand was a pandemic aberration or a long-term trend.
3 things owners can do to increase the value of their business
Multiples will change over time, at the whim of market forces beyond an owner’s control. But if you want to sell your business (or just want to be ready for the moment when someone will pay above market prices) here are the top three things owners can do to command a higher multiple.
Create a succession plan: buyers hate key person risk. If you want to sell your business and ride into the sunset, you need to prove that you have a turnkey operation that can operate without you. Make sure all customer- and vendor-facing roles are staffed by your management team.
Improve the quality of your revenue: buyers fear a situation where revenue drops after you sell. They want proof that your customer base has low churn and recurring revenue. If your business doesn’t have those dynamics, you should at least show that your marketing program provides stable and predictable revenue.
Identify strategic buyers: great entrepreneurs transition from selling their product to selling their business. Think about who has the capability to transform your business; those buyers will pay irrationally high prices. The classic example is Disney paying $4 billion for Lucasfilm because they were able to leverage the Star Wars brand across their film franchises, streaming service, theme parks, and more.
Need advice on how much your company is worth? Or insight on how you can increase its valuation? Let’s talk!
Liza Bowersox, Founder and Managing Director(804) 482-0689 - liza@artemisvaluation.com