Before we get to that question, please allow me to introduce myself as I’m new to writing this email newsletter.
I’m Brent White, an Associate at RKCA. I live here in Cincinnati with my wife and three children, ages five (Shepherd), three (Haven – “Daddy please call me your daughter, I like when you say ‘my daughter’”), and one (Moses). I’ve been with RKCA for three years, primarily working on sell-side Investment Banking, where I get to help business owners realize their life’s work of building a business by helping them achieve an outcome via a sale.
Now, back to the question. I’m commonly asked by business owners, “Is this a good offer for my business?” Assuming the business owner is referring to value, there are many methods to think about whether an offer is subjectively good or not.
Academic Valuations
The first group of methodologies are quantitative valuation calculations that imperfectly attempt to consider unknown factors like future cash flows and growth rates.
- Discounted cash flow (“DCF”) is one common methodology that tries to predict the future (future cash flows), then adjusts those predictions to reflect today’s value (discounting), and finally adds them up to arrive to a valuation.
- A leveraged buyout (“LBO”) is another quantitative methodology that considers the cash flow and assets of a company, how much debt can be supported, growth prospects, and private equity target rates of return.
Any academic valuation is going to be highly variable and sensitive to the assumptions used. Here’s a simple example moving just the variable of discount rate. A business that produces $1 million of cash flow per year and growing 5% is worth $21 million at a discount rate of 10% but only $7 million at a discount rate of 20%.
Comparable Company / Comparable Transactions Valuations
The next group of methodologies attempts to look at other companies and historical transactions to determine value.
- An analysis of public companies compares their publicly traded, often highly liquid and scaled valuations to a business owner’s smaller and privately held company.
- An analysis of historical M&A transactions provides a value based on similar companies, but no two companies have the same position in the market, have the same management, and the same future prospects.
The Country Club Valuation
This is the valuation you hear from friends and family that usually sounds something like, “Can you believe Jim got 15x for his business?” These valuations tend to lack context at best and factual accuracy at worst. And, who tells their friends and family that they sold their company for 1x anyway?
The Market Process Valuation
One of the most certain ways of obtaining a desirable offer is to let the broad market tell you how your business is valued. A way to get a market valuation is to run a competitive sale process with all likely and qualified buyers. Through the process, buyers will give many different opinions of value, and through seeing their opinions, allow you to identify the offer that maximizes your outcome.
I believe a competitive sale process provides a business owner with the perspective to identify an offer that maximizes their outcome in a given market environment, whether measured by valuation, terms, or fit to carry on a seller’s legacy.
If you know any business owners wondering if they have a good offer, please have them speak with an Investment Banker. After spending their life working to maximize the value of their company, they deserve to have peace of mind before accepting an outcome.
