January 10, 2022
You have your “number”. You heard a friend’s friend sold their business for millions of dollars. You read that a “similar” company to yours got acquired at a huge multiple.
But, in truth, you understand that all businesses have valuations that are as unique as the company itself. Whether it’s a corporate development director in charge of acquiring companies that fit strategically with their company, or a managing partner at a private equity group whose directive is to build out their firm’s food and beverage holdings, there are some generally accepted criteria and standards that determine the value of any company.
Fundamentally, there are both qualitative and quantitative factors that determine a company’s value. The quantitative factors (numbers-centric criteria) are size, sales and profit growth, gross profit margins, working capital and capital expenditure requirements, cyclicality and seasonality, among others. Why are these value drivers? If you step back and think about it, investors have the option to buy stock in any company, including publicly traded companies. Those companies are less worrisome to an investor than small privately held companies because they offer greater size along with broad and diversified revenue streams. If they were to lose an important customer, while it would be a negative, that one customer would not have as damaging an effect given that it was likely one of thousands or tens of thousands, rather than one of ten or one of hundreds.
Another lesser-known value driver is liquidity. Importantly, your privately held company lacks liquidity. Liquidity is critical in the sense that if the investor changes their mind and decides to sell the share of public stock they acquired the day after they bought it, the market will allow for that given most public companies have adequate liquidity or “float” to accommodate an immediate trade. In comparison, in the case of privately held businesses, an investor must consider that shares in your business are inherently riskier to own. Shares of your company are not liquid, in that it could take a minimum of several months to sell and may have other value deterrents such as seasonality or capacity constraints that limit top line sales growth, or significant working capital (cash) requirements that constrain an investor’s returns.
A secondary set of value drivers that are holistic in nature, also called qualitative value drivers, are important determinants of value. Those include industry, patents, brands, awareness and other proprietary attributes, customer base, certifications and industry standards, unique product/service offering, quality of management and employee base (culture), and sustainable competitive advantages.
It is said that in business, over time, earnings “revert to the mean.” With that as a known foundational economic and market phenomenon, features such as a company’s proprietary attributes, the uniqueness of its offerings, and the sustainability thereof are criteria that investors use to gauge and ascribe a value to an asset they are considering investing in. Having positive attributes in these categories literally mitigates an investor’s risk. As an example, your company likely has a narrower, limited customer base and product line relative to a public company. What makes your products and brand so highly differentiated that it has staying power in the competitive food and beverage space? If your offerings are set apart from the larger players in your category, that fact pattern will make your company more attractive to buyers.
In addition to these qualitative and quantitative factors, both individual buyer and systemic market characteristics contribute to a company’s value. The systemic side of the ledger includes prevailing transaction multiples, whose underpinnings are the commercial banking industry’s willingness and aggressiveness to lend money at ever changing multiples of prior year’s cash flow. Rising and falling tides such as the macro-economic climate, boom and bust global financial cycles and other events such as the recent pandemic affect value.
The good news? Food and beverage valuations remain at historic highs and demand from buyers for well known, branded companies is robust. On the individual investor’s side of the ledger, an important factor is a particular investor’s desire and interest in what they deem as an attractive asset, concern that an attractive asset will go to someone else, and the relative scarcity value for quality, growing companies. Finally, how an asset fits within their company or portfolio of companies and its ability to be immediately accretive to their portfolio via distribution synergies, economies of scale (attributed to volume buying of inputs and production efficiencies), and fixed cost savings all contribute to the value equation.
Not all professionals have an intimate understanding of the factors that drive premium values nor the experience to manage a market clearing process to maximize value, particularly in the food and beverage industry. If you are contemplating the best next steps to grow your company or are preparing someday to exit from it, you need to interview an investment bank that is a qualified FINRA registered broker dealer rather than take the advice of an accountant, lawyer or business broker, all of whom are ill equipped to advise you through what is likely the most important transaction in your lifetime. At the end of the day, value is in the eye of the beholder, purchase price multiples are a result of process and negotiation and an experienced investment banker can put their knowledge to work for you to maximize value.
Andrew Winick of Billow Butler and Company has more than 25 years of experience in investment banking and corporate finance. He has worked in the M&A and Investment Banking Industry Groups of Merrill Lynch and Morgan Stanley in Chicago and New York, where he completed numerous M&A, debt and equity transactions for public and private companies in both domestic and international markets. Winick can be reached at [email protected].
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