Go forth and multiply. Cautiously.
There are multiple ways to value a company. Savvy sellers know this, and will pick the one(s) that paint their asset in the best light, ably assisted and abetted (though not in the criminal sense, of course) by a bevvy of banks beavering away to beautify their business and create a competitive process.
And multiple is the key word. Using a multiple – often of EBITDA – to value a business, is commonplace. On paper, it’s a great idea, a way to both determine the value of a company, and a viable measure to compare its value to another, which takes account of how differences in capital structure, fixed assets, taxation and the like can skew (deliberately or in passing) the true worth.
So far so good. If you’re a buyer and know a substantial ophtha chain in Europe sells for a mid teen multiple, say, or a small clinic is mid to high single-digit, you know which deals to keep your eye on.
Would that it were that simple. The problem is that EBITDA comes in different flavours.
Which to use? EBITDA from the previous financial year? Trailing 12 month (TTM) EBITDA? Pro forma TTM EBITDA? The formula sellers of burgeoning businesses often promote is pro forma EBITDA. The true value of a business to the buyer isn’t what it’s worth now (they say) – it’s what it will be worth – based on the deals pipeline, recent acquisitions, and planned synergies. And it is here that the waters get most muddy.
Businesses – even those with investors looking at an exit window – are usually able to do M&A at a more leisurely rate at the start of a holding period – unless there is pressure, perhaps from having paid a high multiple in the first place, to cut a quick deal or three to justify that. Due diligence is dutifully done in the early days post-acquisition.
But as a sale looms – perhaps in the 18 months preceding the expected exit – the pressure increases on simply getting deals done because every asset engorges the prospective proforma EBITDA, and it is during this time that concentration might waver a little, and less than ideal assets be acquired. The impetus to succeed with synergies takes second place to the desire to deal.
This leaves the incautious buyer potentially paying over the odds, and spending to justify a high multiple acquisition that demands rapid growth, while juggling an un-synergised business crying out for proper integration.
The savvy buyer, for example, could put a clause in any deal to ensure that where pro forma EBITDA targets are not reached, the silver-tongued seller is compelled to reinvest with a minority stake.
Or better yet, through its own due diligence, it pays the right price in the first place. Failure to pay the right price now will only leave it paying the price – metaphorically – later.
We would welcome your thoughts on this story. Email your views to David Farbrother or call 0207 183 3779.
