Valuing Your Business

Retirement. Loan applications. Shareholder buyouts. Divorce. There are many reasons to value your business. But manufacturers can’t necessarily find the answer on the face of their balance sheet — or rely on industry rules of thumb. Instead, you’ll need to hire a business valuation professional to get a reliable estimate.

Valuators Bring Value

If you Google “valuation rules of thumb for manufacturers,” a wide range of results will appear. A common rule of thumb for manufacturers is four to five times earnings before interest, taxes, depreciation and amortization (EBITDA). But many businesses sell for more (or less) than this range.

This oversimplified formula can serve as a useful sanity check for a purchase offer. But you shouldn’t rely on it alone when selling your business, because it’s arguably the most important business decision you’ll ever face.

Tangible assets — such as receivables, inventory and equipment — are important to manufacturers. But, in a technology-driven, relationship-based market, intangibles — such as customer lists, patents, assembled workforce and goodwill — also contribute significant value. So, professional valuators generally look beyond the cost approach and, instead, rely on market- or income-based methods when valuing businesses in the manufacturing sector.

Let the Market Decide

Under the market approach, sales of comparable public stocks or private companies may be used to value your business. Finding comparables can be tricky, however. Many small, private manufacturers tend to be “pure players,” whereas public companies tend to be conglomerates, making meaningful public stock comparisons difficult.

When researching transaction databases, it’s essential to filter deals using relevant criteria, such as industrial classification codes, size and location. Adjustments may be required to account for differences in financial performance and to arrive at a cash-equivalent value if comparable transactions include noncash terms and future payouts, such as earnouts or installment payments.

Cash is King

Under the income approach, expected future cash flows can be converted to present value to determine how much investors will pay for a business interest. Reported earnings may need to be adjusted for a variety of items, such as accelerated depreciation rates, market-rate rents, and discretionary spending, such as below-market owners’ compensation or nonessential travel expenses. (See “How valuators adjust a financial picture.”)

A key ingredient under the income approach is the discount rate used to convert future cash flows to their net present value. Discount rates vary depending on an investment’s perceived risk in the marketplace.

Need Help?

How much is your business worth today? You probably have a rough estimate in your head, but most owners have limited experience in the M&A market.  At Dannible & McKee, we have a team of accredited professionals who bring a wealth of knowledge to all aspects of business valuation, ownership transition and financial consulting services.  Contact us to learn more.