The trap of multiple valuations

The trap of multiple valuations

The firm Actoria helps business leaders to succeed in the sale of their company.

Every business owner inevitably grapples with the complex issue of valuing their company at some point. There is no dearth of information or professionals specializing in business valuation. However, due to their intricate nature, the outcomes of valuation are not readily comprehensible to all.

The allure of shortcuts in company evaluation is potent

There is an inclination to rely on multiples of familiar variables such as sales or profits. Consequently, a company may be assigned a value of x times its sales or x times its profits. For instance, L’Oréal is deemed to be worth 27 times its profit.

So, why would a professionally executed valuation, albeit complex, differ significantly from the famous multiple used in a comparable transaction?

This discrepancy can generate considerable uncertainty for the seller, especially if the reference transaction involved a “comparable” company.

Naturally, “comparable” implies a similar industry, business model, and roughly equivalent size, revenue, and profitability. This could be true for a direct competitor, adding an extra layer of intrigue.

As advisors to SME managers, we frequently encounter such scenarios.

In the case under consideration, it emerges that while the revenue and profitability are comparable, the competitor has a significant cash reserve, zero debt, and a well-diversified, enduring customer portfolio.

These are among the numerous favorable factors that warrant a higher valuation, without needing to delve deeper into a comprehensive comparative analysis of multiple quantitative and qualitative factors inherent in a full valuation.

Compare like with like

It’s important to remember that a valuation using multiplier coefficients presupposes the existence of strictly comparable companies. This is seldom the case for micro and small enterprises which, due to their size, often operate within specific market niches, rendering each nearly unique.

Their modest size also makes them highly susceptible to fluctuations in their results, thereby complicating comparisons.

The requisite valuation effort

Multipliers are derived from valuation calculations, not vice versa. While they may provide a convenient means of representing a company’s value, they are by no means a substitute for a thorough valuation conducted by a qualified professional.

By:

Kalyann KONG

Phone: +33 (0)6 75 20 16 56

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