By David Sinyard, Managing Director
Atlanta, Corporate Finance Associates
We live in an age of information and investors are influenced by the amount of information available on a given opportunity… be it a publicly traded stock or a private company. One of the first steps to selling a business is to determine its value. If the company for sale is private vs. public, valuation may be a complex exercise.
Publicly traded firms are highly regulated and required to provide snapshots of their financial health on a quarterly basis to all shareholders. There is significant information available on a public company including SEC filings, investor relations departments, analyst reports, etc. A company whose stock trades daily on an active exchange can be valued more easily than a privately held concern whose information remains confidential and private. In the case of a private business, the lack of readily available information works to the seller’s detriment as prospective buyers are limited in the amount of due diligence they can perform, which ultimately results in a lower valuation. This is called the “Private Firm Discount”. Private firms are typically sold at a significant discount when compared to the sale price of similar public companies. Is there any way to overcome the “Private Firm Discount”? Possibly… given time and a smart strategy.
Adding experienced investment bankers to your M&A team is a smart decision when attempting to overcome the “Private Firm Discount”. They will compile a complete list of potential buyers, identify those that offer the best fit and work with you to prepare and take your company to market. They will also be able to help disseminate information in the most effective manner and provide guidance when negotiating with a potential buyer. All these efforts will positively impact the ultimate valuation received by the private business owner.
By nature, private firms are less visible and not as transparent as public companies. Unless the company is a large concern, potential buyers may not know it exists. Early on in the exit process, it makes sense to take the time and spend the resources to “get known”. Use branding, marketing and public relations to shoot for as much exposure as possible prior to hitting the market. When accomplishments occur, make them known. Become the leader in your field. This kind of positive information can only help put you on the radar of potential buyers. In addition, although most private companies keep their financial information very private, the lack of readily available financial information can also lead to a reduced valuation… thus a paradox. Be prepared to open up your books and make sure that your finances are in good order well before going to market.
One of the most important factors in a business sale is the “buyer type” as it directly impacts the valuation. “Strategic Buyers”, or public entities, pay the highest multiples. This is because they can leverage their existing infrastructures and have their acquired businesses fit in easily. Strategic buyers may buy companies to accelerate their growth rate or to add a niche that they would be unable to otherwise provide. Private acquirers, typically Private Equity Groups (PEGs), pay slightly lower multiples. These groups are known as “Financial Buyers”. They invest in businesses in which they can add value. PEGs apply three sets of changes to the firms that they acquire: financial, governance, and operational engineering. These changes are intended to improve the performance of the company that they acquire. PEGs plan on owning their businesses for a limited time, between 5 and 7 years, after which they exit. Thus value creation is critical to them.
Whether strategic or financial, acquirers will likely be more aware of private targets that are related to their business or markets. Industry insiders are more comfortable valuing businesses in an industry where they have experience and expertise. If the acquirer were to buy a firm outside its core competencies it runs the risk of overpaying.
Other factors that impact a business’ value include prior M&A experience, geographically dispersed operations and intangible assets of the selling company. The bottom line is that acquirers are more likely to buy firms that are in their core business or where the company has significant acquisition experience, and where the assets are not geographically spread nor highly intangible.
Overcoming all or part of the “Private Firm Discount” boils down to two things… finding the right buyer and making sure the buyer has all the pertinent information to make the decision to move forward. As the owner of an operating business, you may not be able to do this on your own, maintaining the necessary layer of confidentiality. Let your M&A team of investment bankers, lawyers and accountants work on your behalf to find that perfect buyer at a selling price that you both can live with.
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