The value of any asset is what someone is willing to pay for it. Usually valuation is presented as an objective analytical process to measure value. While financial analysis is important, decisions, even financial ones, are primarily emotional. Analysis and logic serve to justify emotional decisions.
Many of us experience this when purchasing a home. We must justify paying more for a home because we want a particular design, location or quality of workmanship. We may pay a higher price even though a more analytical measure, such as cost per square foot, may indicate that we are paying too much.
Likewise, when business owners are asked what they are willing to sell their company for versus the price they would pay for their company, the answers are very different. Would you like to guess which number is higher?
So what can you do as a business owner to generate excitement and maximize the valuation of your company in the private market?
PRIVATE MARKET PLAYERS
The private market is composed of three major groups: financial investors, buy-out groups and strategic investors.
A financial investor prefers to invest with the existing management team. The investor may be a private individual (an “angel”) or may be an institutional venture capital fund. These investors do not want to manage or control the company’s operations.
Buy-out groups, however, do want operating control and often will replace existing management.
A strategic buyer invests because of perceived “synergies” or overlaps between companies. A franchisee acquiring another franchisee would be an example of a strategic purchase.
In the private market, your company’s EBITDA (earnings before interest, taxes, depreciation and amortization), is a common yardstick for establishing a value. Your company’s value will be a multiple of EBITDA.
Private market multiples are seen in the following ranges:
• “Typical” non franchising company 6-9X
• Pure Franchisor (no company stores) 3-5X
• Franchisor with at least 30% of stores corporate 5-8X
• Franchisee 2-4X
Investors miss many good opportunities because small-business owners fail to educate them about their business in terms the investor can understand, both intellectually and emotionally.
As you can see, the private investor market is not as comfortable with a pure franchisor. One concern is that a pure franchisor will have greater difficulty reaching the size and growth plateaus required to generate an appropriate return for the investor. It is feared that a franchisor will have difficulty maintaining a secure cash flow because franchisees will use at the least provocation and stop paying royalties. Another concern is that a pure franchisor does not have an operating infrastructure to be an effective “marketmaker” in their system to buy and sell existing franchisee operations and maintain ongoing concern values. A mature pure franchisor exhibits more characteristics of a financial management than a retail operating company. As a result, franchisors with a significant percentage of corporate stores trade at higher multiples.
For reprint and licensing requests for this article, CLICK HERE.
Stories You May Also Be Interested In
- The Value of Franchisors
- ENTREPRENEUR'S NOTEBOOK---Tips for Getting the Most Out of Selling Your Business
- Many Steps in Starting to Operate a Franchise
- COLUMNS & FEATURES--Rules to Live by When Putting Your Firm Up for Sale
- Territorial Disputes Over Internet May Arise at Franchises
- Franchising Expands Horizons for Women Entrepreneurs
- The Food and Beverage Industry in Los Angeles: A Roundtable Discussion