A. Guy Rigby writes:
Valuing a business is not an exact science, and sellers may have an inflated view of their business’ worth. From an acquirer’s perspective, valuations have dropped over the last couple of years, due principally to a reduction in risk appetite and a lack of available debt.
In your case, you have the funding to make the acquisition, and it is, therefore, only a question of what the target business is worth to you, and whether this price can be negotiated with the seller. If, after considering all the facts, you believe that the seller’s expectations are unrealistic, or that the business is worth more to him than it is to you, avoid rising to the bait.
The most frequently used valuation method is based on a multiple of maintainable EBITDA (earnings before interest, tax, depreciation and amortisation), rather than the price/earnings ratio method you mention. EBITDA (or EBIT, in the case of a capital intensive business) is a proxy for free cashflow. At the end of the day, it is cash, rather than profit, that counts.
Multiples vary widely, and are dependent upon the eagerness of the buyer and the perceived benefits associated with the acquisition. If the acquisition is strategic (for example, creating a strong platform for future growth), the value offered may be relatively high, giving a distorted multiple when compared to a more ‘normal’ purchase.
In determining the value you are prepared to pay, you should identify the key reasons for making the acquisition, as well as any potential obstacles. Are there any alternative ways of achieving your objectives, such as recruiting key staff from your competitors? Will the cultures of the two organisations fit? Will the acquisition put undue stress on your management team?
The use of an experienced adviser can prove invaluable in considering these and other issues. He/she will be able to offer advice on value and negotiate the price, as well as helping you manage the process through to successful completion and beyond. There will obviously be fees to pay, but, as the old saying goes, if you think professional advice is expensive, try the amateur variety!
Guy Rigby is head of entrepreneurs at Smith & Williamson, the accountancy and financial services group, which provides investment management, financial advisory and accountancy services.