Posted on 18 February 2016
When selling a private company, the matter of the “value” is not only emotive, but also extremely subjective.
The only reliable way of ascertaining the true value is when a business is ultimately marketed for sale, and offers are received from prospective purchasers. Even then, there is no single methodology that can be used to precisely value a private company: the seller will seek the highest possible price, whilst potential purchasers will want the opposite, but in reality market forces will dictate.
A number of valuation bases exist including: asset valuation; discounted cash flows; entry costs; and sector “rule of thumb”.
However, by far the most common method is a multiple of earnings – and even then there is the question of whether the earnings are EBITDA (earnings before interest tax depreciation and amortisation), pre-tax operating profit or, most commonly, post-tax profit.
Under the multiple of earnings basis, a business’ value fundamentally depends on:
What earnings a purchaser can make from it;
The continuity of those earnings; and
The certainty (or risk) of those earnings.
In all cases, it is important that the earnings are the underlying, maintainable earnings which would be enjoyed by a purchaser – that is after any non-recurring, unusual or exceptional costs/income have been eliminated, and any ‘non-market-rate’ costs have been adjusted to a ‘market-rate’.
Once the underlying, maintainable earnings are determined, the calculation is theoretically straight forward…….however there is no standard multiple to be used.
Multiples reflect many variables – the sector/industry/market the company operates in, growth prospects, underpinning of income, fixed assets, IPR, competition, quality of management, (over)reliance on a small number of customers – to name but a few.
Whilst comparison can be drawn from an equivalent listed public company, multiples for private companies are lower reflecting the limited market for their shares, and so must be discounted. Deals involving similar private companies can also be a good source of evidence of multiples, provided that the key deal information, including the all-important consideration and reliable adjusted profit figures, is in the public domain.
If you are considering an exit and would like to discuss “value”, please contact a member of the Corporate Finance team at Smith Cooper. We can help assess all of the above factors and form a view as to the likely value so as to help you, the shareholders, come to a decision on whether or not to sell.
When it comes to selling your business, we are confident of getting you the very best price as a result of a well-structured, competitive sale process having gained a thorough understanding your personal objectives and business issues at an early stage.