Valuation expectations are one of the biggest areas of contention between sellers and buyers. Sellers always want their businesses to be worth more, while buyers are much more inclined to see a company’s shortcomings. Investment banking firms working with sellers often must educate them to understand the sources of a company’s value. This is because sellers associate hard work and emotional attachment with enhanced value. While it’s true that the effort an owner pours into a company may pay off, it’s not the most important factor. Business owners contemplating a sale should be mindful of the following key factors in determining business value:
Value is ultimately in the eyes of the beholder—the buyer. The buyer gets to decide whether a seller’s company fits their goals, and the specific considerations a buyer undertakes range from completely predictable to totally mysterious. When a company is an excellent fit and there’s no better option, a buyer may be willing to pay significantly more. In a saturated market, the opposite will be true.
Two distinct trends can affect a sale: the state of the wider market and the company’s niche. In the wider economic market, inflation, recession, economic uncertainty, availability of credit, and similar factors are incredibly important. When interest rates are rising and values are falling, for example, a company may quickly decline in value because capital is less accessible.
This isn’t all that matters, though. Even in a tanking market, some sectors continue to thrive. Consider how digital learning businesses became highly profitable during COVID, even as some other companies struggled. Or how travel agencies are now essentially nonexistent, and consistently went bankrupt even as the rest of the economy was booming. Owners must be realistic about the economic climate they face.
Quality of People
In almost all businesses, the people are indistinguishable from the company. A business that loses all of its people has lost immense value. So owners must focus on the value of their team. Some factors that are especially important include:
- Owner dependence: Companies that are excessively dependent on the owner are less valuable.
- Management strength: A strong management team makes a company a more enticing acquisition.
- Company culture: Is the corporate culture toxic and dysfunctional? Or is the owner selling a well-run business filled with happy employees who have a long tenure at the business? Buyers don’t want to see an entire team jump ship.
Numbers and Forecasts
Everything can change during due diligence, because this is the moment when owners must support their claims with proof. No matter how successful a company seems, a buyer will be interested in forecasts rooted in reality, numbers showing steady growth, and trends that show a succeeding business rather than a company bleeding money and losing value.
The EBITDA multiple is a product of other valuation factors, and it’s also perhaps the single most important factor determining value. It’s a reflection of the buyer’s commitment, desirability of the company, and the strength of the overall market. Higher multiples mean higher sales, and stronger companies in thriving industries get higher multiples.