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Wednesday, 24th April 2024 |
| True value may not determine what you pay |
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Before you can buy or sell any business you must first agree what it is worth.
The big question is - what price should you ask? or what should you be
willing to pay? Mark McComish, whose speciality is buying and selling companies through CFM Capital, the merger and acquisition arm of Chapman Flood Mazars,
says that vendors should have realistic expectations and acquirers must
understand these expectations. |
T horough examination of recent deals in similar sectors to check prices being paid is
recommended. Many trade magazines have useful reference sections detailing acquisitions by industrial sectors. Libraries with good business sections may carry financial publications, which give details of acquisitions and disposals, including prices paid.
Although there are a number of different methodologies for placing a value on a business, each will only give an indication of the value. In reality, the market value of any business is the price which might reasonably be negotiated between a willing buyer and a willing seller, both of whom are deemed to have equal knowledge about the business and the sector in which it operates and each of whom is deemed to be acting for self interest and gain.
It is important to note, however, that the actual price ultimately paid does not necessarily equal the value of the business.
Frequently, businesses are valued by multiplying their profits by an agreed figure, known in the public arena as the price to earnings multiple or P/E multiple. This figure is normally determined after lengthy negotiations between buyer and seller. Quoted companies are usually valued this way and these multiples can be used to provide a guide to valuing a private business.
Newspapers’ financial pages usually quote multiples, and you can compare companies with similar activities to your own, but remember that private businesses are usually valued at less than public ones. The discount to be applied to public multiples can be as much as 50 per cent as a result of factors such as the lack of a stockmarket quote, the transfer restriction which often applies to private holdings and the size of the holding on offer.
The multiple is applied to adjusted post-tax profit or maintainable earnings. Maintainable earnings may be defined as the normalised base from which underlying profits are expected to vary or grow in the future. As such they should be adjusted for non-recurring or other abnormal items. Vendors should look at how they can increase that figure while the buyer must guard against over inflation of this figure. Vendors often cut unnecessary expenses such as R&D and advertising in the periods prior to sale or harden prices of their goods or services for short-term profit improvement. In some firms, certain expenses relate more to the owner than to the company and these should be disregarded.
If the business is to be valued on a multiple, then assets do not necessarily support the price. Shrewd sellers try to extract such assets from the business and into their personal ownership before negotiations start while buyers need to ensure that the underlying asset base is sufficient to maintain the company’s earning into the future.
Occasionally, businesses may be valued on cash flow. Using Discounted Cash Flow (DCF) techniques a company is valued based on the present value of the estimated future cash flows of the organisation. This is a scientific method of attempting to value the cash stream being purchased.
For property companies, net assets provide an obvious price guide. However, frequently a combination of these three methods is used to get an indication of value before going into the market place.
In looking at business valuations it is worth remembering that:
l Businesses rarely sell for more than their turnover
l Valuations, in practice, will usually be based on current and recent trading results - not on future forecasts.
l No two offers will be the same: some will include deferred consideration, payable over time or on future results, while others may have non-cash considerations such as shares. Compare all offers with care.
l Some industrial sectors have accepted valuation methods. Hotels, for example, are valued per bed and insurance broker’s prices relate to premium income. Check if there is such a norm for your business.
Remember that price is not everything. There may be a continuing consultancy agreement to organise and arrangements for the vendor’s pension are crucial. Top of the list for many vendors is how the buyer will look after staff who stay with the company. A clear conscience can be worth a few pounds off the selling price.
Mark McComish, is a manager in Chapman Flood Mazars, an M&A boutique. These techniques and other valuation issues will be explored in a one-day practical workshop on the subject to be held on 22nd of January 1999 in the Stakis Hotel, Dublin, which will be led by Mr. McComish. |
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| Article appeared in the January 1999 issue.
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