That Elusive – and Critical - EBITDA Multiple

Once you have an EBITDA clear in your mind, what should you expect as a multiple to be applied to that EBITDA? This is the great question with which all buyers and sellers struggle. And there is no single exact number that can be calculated. Rather, what is negotiated ultimately determines the fair market value of your business and the price at which you will sell your business.

In general, private companies sell between 2X and 10X EBITDA, with the majority of transactions in the 4X to 6X range. Therefore, a company with annual EBITDA of $1MM is generally worth between $2MM and $10MM, and more likely between $4MM and $6MM. There are, of course, outliers where companies are worth more or less than this range.

Okay, but this is a very wide range. How do we narrow this analysis? As a seller, you will want to prove the following to achieve the highest multiple, hopefully even higher than the high end of the normal range:

·      Comparable public companies set the high-water mark. As we explained in an earlier post, if you can find comparable public companies, their EBITDA multiples will usually set the high-water mark for valuing your company. The reality is that the buyer will argue that public companies are not true comparables, given they are usually larger, much more liquid, and far more transparent and regulated than private companies. But it’s always good to know the high-water mark.

·      There are comparable private companies (e.g., as similar to your company as possible in terms of business model, growth prospects, size, profitability, geographic location) that trade at the high end of the range. This is very hard information to find, but well worth the effort. Talk to everyone you can in your industry (e.g., operators, owners, accounting firms, lawyers, business valuation firms, trade journals) and probe deeply in the online world for supporting data.

·      Your historical and projected growth is strong (i.e., at least 10%, and preferably 20% or more, annual growth in revenue and profits).

·      Your revenue is of a recurring nature, meaning it is largely in place from prior years and can be expected to continue without a huge sales effort or high degree of risk.

·      The product or service is uniquely valuable, and not a commodity. The more commodity-like the product or service is, the more likely a potential buyer will say, “Why buy a business? I’ll just start one.” Which will, of course, lower your pool of potential buyers and, hence, the price of your business. In Silicon Valley, companies talk about their “intellectual property” or “IP,” which can be anything from highly unique knowledge or skills to patented products. IP is thought to be a proprietary and protected form of revenue and profit, and hence more valuable than a commodity. You should work on how to portray your company as having more IP and being less of a commodity. In one of our case studies, the owner of a pet grooming business made the case that her systems, which include an online reservation system, an online or app-based progress report so that customers can track the progress of their pet’s session, videography of the services provided, and delivery of a digital report card to customers, constitute proprietary IP not easily replicated.

·      You are not purely a provider of professional services. The issue with professional services firms is that the value of their businesses (i.e., their people) walks out the door each night. Given the flight risk of the core value of the business, few historically wanted to pay too much for the business in which they operate. This is why law and accounting firms have historically not traded at high multiples. In fact, they usually traded at the bottom of the normal range. (That is changing as we write, though, as private equity firms, robust with investment cash, are getting more comfortable with this risk.) An example, though, of where a services firm could trade at a higher multiple is where it possesses a unique skill and market position that would be hard to replicate. Several years ago, we ran across a law firm that was known throughout California as the best firm to procure temporary work visas. Their reputation, and processes and procedures, allowed them to price their firm well into the normal multiple range, instead of well below it where a local general law firm would normally trade.

GROW and SELL Advisors, wholly-owned by Traversi & Co., LLC, is a premier sell-side M&A advisory firm – a boutique investment bank – serving the lower middle market.  Visit us here.

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