Market Comparables & Industry Rules Of Thumb
There are a variety of resources available to research cash flow multiples that may be relevant or specific to your business. These include well known guides such as the Business Reference Guide by Tom West, and private transaction databases such as Pratt Stats and Bizcomps. These databases track thousands of completed transactions and the valuations that were achieved relative to sales or earnings. The appropriate multiple of earnings and gross revenue using the Industry Comparable method is determined by reviewing similar private transactions that have taken place within the same or similar industry, and applying the average and/or median multiples incurred in these transactions to the earnings and revenues of the subject company.
Business owners many times refer to common “rules of thumb” that are used in their industry. A rule of thumb valuation basically consists of using a simple formula that estimates the value of a business through a set of established and very general business pricing guidelines that relate to specific industries.
We find these Market Comparable and Rule of Thumb methods to potentially be very misleading as they do not take into account the individual characteristics, strengths, and weaknesses of each different and unique company. Even if companies appear to present similar financial information, whether it is the mix of business, vendor contracts, management team, customer base, and concentration, or countless other factors, no two companies can be considered mirror images. This hinders an exact comparison.
Additionally, due to the quality and accuracy of the financial reporting in the non-public, middle market sector, information is limited and adjusted earnings calculations commonly differ from company to company.
Private company valuation is both an art and a science. Other than what was discussed, there are many other factors that influence business valuation, including strategic value driven by synergies with complementary businesses and potential acquirers. Ultimately, at the end of the day a business is worth what an acquirer is willing to pay for it. It is, however, critical to have a realistic understanding of the value range that your company would likely yield if you were to pursue a transaction.
To discuss your situation further, contact a M&A professional today on firstname.lastname@example.org