Every business owner wants to maximize the value of their company and receive higher valuation from prospective buyers when strategically working on an exit plan. Whenever I see flat or declining sales from year-to-year and especially in the last three years, I know that business is going to be more difficult to sell.
Higher Valuation from Sustainable Revenue Growth
Creating sustainable growth is very important to achieving higher valuation. There is usually a direct correlation between increased company revenue and profitability as long as the company is maintaining profit margins and not selling cheap products or services just to be selling. The following numbers are taken from a small manufacturing business in three consecutive years that illustrate what having a solid repeatable revenue engine did for the company profitability and thereby created a higher valuation:
- GROSS PROFIT
- OP. EXP.
The 3-year weighted average EBITDA was $378,319 = (3 x 529,383) + (2 x 316,456) + (1 x 48,854) / 6
Higher Valuation Metrics
Because of a solid, repeatable revenue engine that was increasing both revenue and profit year-by-year, our firm and the seller were able to convince the buyer to use the 2017 EBITDA in determining the price in the buyer’s formula of paying 4.6 x EBITDA. This resulted in a sale of approximately $2.4 million.
Without a solid, repeatable revenue engine, the buyer probably would have used the three-year weighted average in determining price, and the maximum that the company would have sold for is approximately $1.7 million. One could also assume that the EBITDA would have been far less without the strong revenue growth, so a higher probability is that the same company would have sold for less than $1.7 million. The higher valuation was a direct result of the increased revenue and profit.
Every company is different with a lot of factors determining value, and different industries command different multiples of EBITDA as well as the size of the company’s revenue in determining multiples. Higher valuation is driven by higher revenue. A profitable $25 million dollar revenue company is going to command a higher multiple than a profitable $2.5 million dollar revenue company.