Maximizing Your EBITDA Multiple and Business Value (Part 2)
In Part 1, we looked at what EBITDA means and why we need to be concerned with it. We also examined how to adjust our EBITDA by evaluating expenses and increasing revenues and why potential Buyers will need to consider risk when they are looking at our company. Today, we’re going to check out the EBITDA multiple and see how it dramatically impacts our business’ value.
(note: this is only for privately held companies under $50 million. EBITDA gets wacky with larger companies and public corporations and we’re not going there. this is just for my people, the small and medium closely-held enterprises.)
Let’s Talk about that Whole Risk Thing – the EBITDA Multiple
Let’s add in the final piece to figuring our your company’s value using the EBITDA: the EBITDA multiple.
What is it?
It’s literally a number that we multiply your EBITDA by, to find a fair market value.
EBITDA x Multiple = Value
Yes, there are lots of ways to come up with a value for your company and valuation services can be very, very expensive and complex.
I like this one because it’s quick, cheap, and keeps us focused on what matters:
Increasing your EBITDA and increasing your multiple.
Growing your business now and make it more valuable later.
The premise for this method?
A buyer will pay more for a company with a solid structure.
A buyer will pay more for a company with a strong management team.
A buyer will pay more for a company with codified systems and job duties.
Finally, a buyer will pay more for a company with a diversified and consistent customer base.
(and there are more, but that will get us started)
All of these factors are called Value Drivers because, well, they drive the value of your company UP.
We like up.
When you focus on building strong Value Drivers, you decrease the risk of investing in your company, and increase the EBITDA multiple you can expect to receive in the marketplace when you go to sell.
How Big is that EBITDA Multiple?
If you’re into investing, you may be familiar already with EBITDA multipliers and you may even know that when publicly traded companies sell they often sell at 10-20 times – or more! – their EBITDA.
The multiples are HUGE.
That isn’t the way it works down here in the Main Street and Mid-Market ranges.
For small and medium, closely-held companies, the multiples are almost always under 10.
And if your business revenues are $5 million or less, the multiple will almost always be less than 5.
In fact, for most companies, the multiple is somewhere between 1 and 2. And, for some companies, it’s less than 1.
In other words, if you don’t have your company’s structure in place with solid Value Drivers, you could very well end up making less than what your company’s EBITDA tells you it *should* be worth. It’s just too risky for an Owner-Investor to take on.
The Horrifying Truth for Most Small Business Owners
But, and this is the truly scary part, selling your business for anything is a huge win because statistics tell us that most businesses – and by most, I mean 80%! – never sell and the Owner either works until they die, or they end up locking the doors and walking away.
That is a tragedy and something we want to avoid.
That’s why we do Exit Planning NOW.
Because, the truth is that, for many small business Owners, they are counting on the sale of their business to fund their retirement.
And the truth can be horrifying.
Let’s say that your business has annual revenues (sales) of $2 million. And, so, when you look at that you start to feel pretty pleased because, “Hey! Surely we can sell our business for 1-2x that amount!” and you feel comforted by the eventual – and easy! – payday that will happen at some point in the future when you get a windfall of $2 to $4 million dollars.
So very, very tragically wrong.
Using the EBITDA Multiple to Find Your Company’s Value
We care about your EBITDA because the value of your company on the market is often calculated using your EBITDA and a multiple.
So, let’s say you’re a fairly average business.
One where you as the Owner are still involved with day-to-day operations, your systems are in your head and kind of chaotic and you don’t have much of a management team.
That’s pretty typical, right?
Everyone just does what needs to be done and formal job descriptions just get in the way of you being nimble on your feet.
Boom. That’s a multiple of around 1. Right there.
And let’s say that your EBITDA is actually a pretty decent 10% of revenues, or around $200,000.
That means you can expect to sell your business – that precious baby you have spent decades building for around $200,000.
(take a breath, that’s why I do what I do. there is hope.)
EBITDA and Fair Market Value
(first, a very important note: BEWARE. This can get overwhelming very quickly when you start talking to valuation specialists. There are numerous ways to calculate value and you’ll want to use a couple of them – eventually. When you first start Exit Planning, do NOT get a full valuation. They can be very expensive (10s of 1000s of dollars) and you simply don’t need it. That’s one reason why my clients love having me on their team, I help them avoid expensive and unnecessary decisions.)
What you’re looking for is a Fair Market Valuation.
A Fair Market Valuation is based on you (the Seller) getting together with a prospective Buyer. Together, the two of you will go through the numbers and hammer it all out and negotiate your socks off. The number that you both arrive at that they are willing to pay and that you are willing to accept is the true market value of your company.
In other words, when all is said and done, all the fancy calculations don’t mean a thing.
What really matters is the number that the Seller and the Buyer can agree on in an open, voluntary negotiation.
We’ll do the calculations and we’ll work the multiple but this is why a very important part of Exit Planning is figuring out what you need to earn from the sale of your business so that when you go into negotiations you know your target and can continue to aim for it in what is an extremely emotional and roller coaster-y time.
You need to keep your eye on the ball when your business is in negotiations.
(that ball is your liberation and next phase, by the way)
You might be thinking, “Wait! Wait! You’re telling me I’m going to go through ALL of this work and figure out my EBITDA and my multiple and ALL OF THE THINGS and then none of it matters once negotiation actually starts? What the heck?!!”
And my answer is, “Kinda. Yeah. And no.”
Creating Posture for Your Business Exit Negotiations
Because what all the preparation and planning will do, and does do, is give you posture in those negotiations.
When you know that you know that you know that your business runs like clockwork.
When you know that you know that you know that your business is systemized, organized, runs beautifully, and has an Owner who is liberated from the daily grind and hustle, you will enter those negotiations with your head held high and your back straight.
You won’t take some low-ball offer because you’re burned out and desperate.
Nor will you cave in the face of all their jargon-y accounting speak because YOU WILL KNOW YOUR NUMBERS.
And that frickin’ rocks.
If buying and selling businesses isn’t your profession, chances are this will be the only time you go through this process.
That can leave (and does leave) a lot of Owners floundering and stressed out and burned out by the process. In fact, it can get so bad that an Owner will just walk away from selling and decide that they’ll just ‘never retire’ and die in their business with their boots on.
Not with proper Exit Planning.
Going back to our example, let’s say, instead, that you’ve gone through the Exit Planning and Value Driver Maximization process with me. We’ve worked together for 3 to 5 years (yes, it takes a while to completely renovate and turn that ship that is your business) and now your numbers look very different.
Your revenues have increased to $3 million.
Your operating expense have decreased because you have less staff turnover and much greater efficiencies.
Your EBITDA now is $500,000.
(we’ll keep the number super-conservative)
More important, you’ve put in place all the systems and staff to liberate yourself from day-to-day operations.
Boom! Now your EBITDA Multiple is 3. Your business is a joy to behold.
Now, when you enter negotiations, your head is high and you know your Gap number (the number you need for your next phase) and you know what your business is worth. It is VALUABLE for it’s niche. It is a HIGH PERFORMER.
And you negotiate like the very savvy Owner you have become.
And you walk away with a very nice payday of $1.5 million (instead of $200,000 or a business that is unsellable) and you deserve every penny of it because you have proved that your business is a cashflow and operations superstar.
Can you feel it? That’s hope. We’re here to help that hope become reality.
Do yourself a huge favour and contact us now.
We’ll set up a time to talk and, together, we’ll see how we can be of service.
Start here and we’ll walk through this together.
Read Similar ArticlesPosted in: Advice for Business Owners, Exit Planning
Tagged as: business Owner, business value, EBITDA, exit planning, fair market value, selling my business, small business