Volume 6 Issue 10, May 21, 2019
Ever wondered why two seemingly similar companies sell at significantly different multiples? What are buyers considering in ostensibly comparable companies that cause sale price differences? Let's discuss five key secrets of market multiples:
1) Revenue/Earnings Growth Potential — Buyers are willing to pay more for companies with high growth potential than companies perceived as having low growth potential. The reasons are those high-growth-potential companies:
2) Low Cost and Ease of Scalability — Scalability is a characteristic of a system, model, or function that describes its capability to cope and perform well under an increased or expanding workload or scope.
Buyers are willing to pay more for companies that can scale up easily/quickly and at relatively low cost. Telemedicine and telehealth are examples of strategies that allow for relatively low cost/ease of scalability. Conversely, capital-intensive companies are high-cost/difficult-to-scale businesses that require significant reinvestment once they reach capacity. In addition, they often face physical space limitations that limit growth
Ways to enhance a company's scalability include the following:
3) Next-Level Management — Concerning entrepreneurial management, Peter Drucker is quoted as saying that one of its requirements is "… building a top management team long before the new venture actually needs one and long before it can actually afford one."
That essentially summarizes the importance and appeal of next-level management. Managers come and go, some by their own choice, some forced to do so. But a good company, with strong management in place, can weather the loss of a manager/owner because there are competent individuals available to fill any void. Next-level managers possess the skills and experience to step into key management positions. They may also bring an influx of new, creative ideas that spur growth and help elevate the performance of a company to its "next level."
Buyers are looking for companies with next-level management to provide that stability and support. Furthermore, next-level managers contribute value in other ways, including:
4) Diversified Payor Mix — We've all heard the idiom, "Don't put all your eggs in one basket." The risk of doing so is that something will happen to the basket and all of the eggs will be broken.
Buyers share a similar perspective when it comes to payors. If a company relies exclusively or heavily on a single payor, the company risks:
A diversified payor mix can help reduce the impact of these risks. If a company loses a contract, it can fall back on other contracts to drive business. The company maintains leverage during negotiations; if a contract's terms are unreasonable, the company knows it can walk away from the negotiating table, if necessary, and still have ways of generating revenue. The company can better absorb the negative impact of payment delays associated with a single contract. Finally, a payor audit that creates payment challenges (and possible repayments) is not as likely to cripple the company.
5) Low Company-Specific Risk — Buyers are willing to pay more for low-risk companies than high-risk companies. Low-risk companies tend to be those with:
It is quite common for company owners to perceive the market value of their company in terms of market multiples based on prior sales of similar companies. But when comparing themselves to "similar" companies that have sold, they may not be privy to information about matters such as growth potential, scalability, management traits, and company-specific risk of those prior sales (a.k.a., the "secrets" that impact market multiples). Understanding these factors — and knowing how to strengthen them prior to a sale — is critical to securing the best price for your company.
David is a seasoned commercial and corporate finance professional with over 30 years’ experience. As part of the VERTESS team, he provides clients with valuation, financial analysis, and consulting support. He has completed over 150 business valuations. Most of the valuation work he does at VERTESS is for healthcare companies such as behavioral healthcare, home healthcare, hospice care, substance use disorder treatment providers, physical therapy, physician practices, durable medical equipment companies, outpatient surgical centers, dental offices, and home sleep testing providers.
David holds certifications as a Certified Valuation Analyst (CVA), issued by the National Association of Certified Valuators and Analysts, Certified Value Growth Advisor (CVGA), issued by Corporate Value Metrics, and Certified Merger & Acquisition Advisor (CM&AA), issued by the Alliance of Merger & Acquisition Advisors. Moreover, the topic of his doctoral dissertation was business valuation.
He earned a Doctorate in Business Administration from Walden University with a specialization in Corporate Finance (4.0 GPA), an MBA from Keller Graduate School of Management, and a BS in Economics from Northern Illinois University. He is a member of the Golden Key International Honor Society and Delta Mu Delta Honor Society.
Before joining VERTESS, David spent approximately 20 years in commercial finance, having worked in senior-level management positions at two Fortune 500 companies. During my commercial finance career, he analyzed the financial condition of thousands of companies and had successfully placed over $2 billion in corporate debt.