Updated: Feb 10, 2022
Preparation is crucial when selling a business
Many business sales fail due to poor financial performance. In a recent survey 36% of failed exits were blamed on lumpy or plateauing year on year sales, or low and declining margins. Conversely, an analysis of successful company disposals revealed that profitable businesses accounted for over 80% of successful exits.
Acquirers use future profits to pay back funding and relative valuations are often based on multiples of profit. Businesses with higher profit margins command higher offers and are easier to sell.
Understanding How Profit Adjustment Impacts Value
Prior to estimating value, a more accurate measure of profitability needs to be established and EBITDA (Earnings before interest, tax, depreciation and amortisation) is used as a starting point. The EBITDA margin is then adjusted to reflect changes when the business changes hands.
When a business changes hands some of the costs generated by the departing shareholders will no longer be required enhancing profits. Conversely, some of the contributions made to the business by the departing shareholders may need replacing, such as the cost of new management for example. These adjustments to the EBITDA margin, are called add-backs and add-forwards and when applied, reflect a more accurate measure of the profitability of the business moving forward.
The adjusted *EBITDA can now be used in different valuation methods. Applying profit multiples from similar transactions in your sector to your adjusted EBITDA will provide a ballpark indication of your enterprise value. Further adjustments need to be made for debt, surplus cash and working capital required by the business moving forwards.
It’s important to understand that any increase in profitability prior to your chosen exit could be worth several times that amount when the company is valued. In the same way, any direct or indirect cost savings achieved prior to exit could be worth several times the amount saved, when the company is sold.
Comprehending which expenses can or cannot be added-back to EBITDA and how profitability impacts future deal value enables shareholders to groom their businesses for sale, saving considerable amounts of money when they exit.
If the financial health of the business cannot support shareholder value aspirations, then our services can be paused until the financial position is improved.
Call us on 01384 274 778 / 075 888 925 88 to discuss or go ahead and book a free consultation to explore your options.