Business valuation multiple

Hi All,

Repost as other threads seem quiet.

Looking at a business right now and have signed an NDA as of today. Going through all figures etc and wanted to get some opinions on valuation multiple.

Owner wants around 1.4m
Business is doing 2.5m in rev per annum
2019-2020 net EBITA $360k
2020-2021 EBITA $405k

Husband, wife, and child all drawing income with only him working in the business. Combined incomes of around $246,000 + around $55k in super contributions. They also put a couple vehicles through the business.

I could save $150k up front pretty easily.

Business is established, scalable, and I work as a supplier in the industry so know the customers, clients, and market well.

Based off 2020-2021 FY it’s a multiple of x3.5. Cutting some costs and paying myself $150k a year it would pay itself off in 3. Or draw dividends and pay it longer. Is this multiple quite normal for a business of this size??

Also, if looking to finance, financing 1.4m.. What are banks looking for in business? Is there a typical LVR they are comfortable with?

 

Each industry run on different multiples so your accountant would be able to point you in the right direction.

 

Thanks Scott. I’ve had a chat to 2 accountants. And to be honest they weren’t entirely confident in the answer. I guess they don’t know the industry or exact sub category this business fits into. (Which is coating) so technically construction

is there a rule of thumb or way to work this out?

 

What adjustments are in that EBIT? ie. Are all the salaries paid to family pre the quoted number or post? (so true earnings around 700k?).

Working capital requirements? - what deal structure is contemplated? If you are acquiring goodwill and stock only (whereby seller will pay out debtors and collect own creditors) you may need to put in additional funds if the business.

Earn out and profit warranties ?

For finance, years ago I looked at banks for $2m to acquire 50% shares in a private company from owner sell down. Rate was about bbsw +5% and they wanted
P&I over 4 years. Real property as security. When you think about that term, because business was growing quickly it was slightly CF negative, would have destroyed the growth to have to pay P&I (P only paid post tax!). So I used cash flow finance facility. Perfect.

That sort of PE multiple is pretty typical in this market for a business that has minimal capital requirements, diversified client and supplier base and earn out over a couple of years. (50/25/25).

You really need to understand earnings quality - have they just jammed margin in the last 6 months to maximize short term value? Have they been the beneficiary of one offs? Have they put jobkeeper in “other revenue” etc.

If you are going to do this you need a good lawyer experienced in small M&A and accountant. You’ll spend $$ and it will be well spent imho

 

Last time I looked rent rolls sold on a multiple of 3x rent commission, can't remember what it was for cafes/take always.

Try a business broker or @Paul@PFI might chime in.

 

Business brokers, but it’s basically what you can negotiate. These type of companies are not something you can really run a sell side process on so it’s a one on one negotiation. Often vendors here have a “number” rather than PE multiple.

Suggest get onto the “deal room” podcast and learn and listen…..

 

Thanks Falcon, those questions are invaluable as I'm completely new to the world of business.

Correct those figures are post quoted numbers, so yes true earnings outside of paying the family a salary are $700k, Melbourne based and that's including getting smashed by multiple lockdowns during covid. There's 3 unnecessary vehicles and 1 employee that can go as well so real profits could potentially be closer to $800k.

Thats all expenses included right down to charity and toilet paper.

Working capital is the essentials, wages, stock/inventory, and rent. The wages and rent being a fixed cost however being a coatings business, stock/inventory is really dependent on work and as long as your being paid, your able to pay your own bills. I estimate you would need $200k working capital.

Earn out and profit warranty i need to look into, i dont know that term.. Deal structure, again will need to look more into this. As i said, very green...

 

No worries @Codie

Deal room podcast a good place to start…and books. Then you’ll have a framework to approach this. Plenty of books (many US focused but still relevant).

An accountant who can pull the books apart will be able to tell you what working capital you will need.

Basically you are not going to pay the entire consideration at the time of settlement, there will be deferred payment based on performance meeting expectation - they will need to warrant X for Y period. The deal structure will be asset sale - unless they want to sell you the company (better for them re tax, possibly worse for you re historical risk). If company, you’ll be taking on the debtor / creditors as is, there will then be arguments around what is normal working capital level etc.

Not straightforward for the uninitiated

 

First thing I'd be looking at, is how much cash can go straight in the pocket

 

No obligation to answer that question.

 

Lol datto I’m assuming you mean start drawing as much dividends or profits from the business immediately as you can?

 

Some other things to consider, don’t have to answer, just some thoughts.

As Scott mentioned different industries sell on different multiples.

You’ve mentioned x3.5 on 20-21, what’s the multiple of the average of the last 3 yrs? For me x3.5 is a bit high.

You won’t be able to pay it off in 3yrs, don’t forget the taxman comes first!

Has the business got contracts, government customers?

The top 5/10/20 customers are ? Share of sales/profit.

What are the barriers to entry? Could you start a similar business yourself?

Ps, thanks for posting a thread that’s not Covid/lockdown/vaccination!

 

Good thoughts. Exactly what I had hoped.

There’s about 50 customers. Most which I know personally given I’m a supplier to the industry.

#1 is 25.3% of the business (again, I know them well)
#2 9.8%
#3 4%
#4 1.9%

the bottom 50 are less than 1.5%

No contracts.

Barrier to entry is the equipment. You could easily spend $1m trying to set up yourself and loose a-lot of time, and not to mention start with an empty book. The teething problems have mostly been sorted over the last 8yrs.

The advantage, is the market intelligence being the largest supplier to the industry, and knowing the players, customers, products, and so on. I would be buying one of my customers businesses. Therefore knowing my competition sometimes inside out.

My biggest issue is going to be financing it. This is what I really need to understand

And yes, I’ve been banned from those threads. It seems the brains trust doesn’t like things being questioned lol

 

Yeah. Include also any “loose change” sitting on the counter

 

It goes without saying you need to know if you can finance it. That’s the first step.

More thoughts, re: equipment - is this something that needs replacing after x years? If so, when is it due for replacement? Has it been well maintained until now? If it breaks down how long until repair, are parts readily available?

A slightly different consideration with business ownership is your role. While you are excited at the prospects of business ownership, are you going to have the time/energy and family support.

While I don’t know the current set up, if you’re planning on doing sales/customer management, ie working “in” the business, don’t forget it takes time to do things such as insurance renewals, property lease renewals, staff management, equipment repairs.

Also do you require 4 weeks annual leave for yourself? If not, are you prepared to forego this for several years?

 

All great points!

I can say equipment has been extremely well maintained and upgraded. Replacement not necessarily needed at any stage, it’s just a case of maintenance which will be factored in.

I have thoughts of bringing someone else in I trust and sharing the roles, one that can take on a GM style position and the other being BDM/sales focused. There’s currently a factory manager in place.

Most customers do have a shut down period over Xmas but yes no problems with that, I hardly ever take a day off now and it’s not even my company!!

thanks for your thoughts.

 

The customer concentration is pretty high, not terrible but not great either. Drop your 25% customer and the economics of the business are very different.

I’d never buy a business with 100% cash up front. It’s not a property. You could structure a deal at 50% cash on settlement and 50% earn out (12 and 24 months).

Vendor would need to warrant a minimum profit level for this period, otherwise price scale back would occur. But you’d also offer vendor upside that if profit exceeds an agreed level in that period (even incorporating the cost outs you implement) you will share the overs with them at a predetermined ratio. (Say 25% over X). This way they are invested in your success and much more likely to give you post acquisition assistance if required, speak well of you to customers, suppliers etc.

I’ve been on the sell side with this deal structure and it worked well. Everyone was happy, I got some extra cash and the new owners got better performance.