By comparing a company for sale with other similar companies that were recently sold in the same market, the market value can be estimated. To understand how multiples are used to value a business, it is important to understand the general approaches to valuing a business. The multiples vary by industry and could range from three to six times the EBITDA for a small or medium-sized company, depending on market conditions. Many other factors can influence the multiple used, such as goodwill, intellectual property, and the location of the company.
The size of the company and the level of EBITDA itself play an important role in selecting a multiple of EBITDA, with the general perception that investments in larger companies have less risk and, therefore, deserve higher multiples. If the cash flow generated by a company must be continuously reinvested in capital expenditures, then EBITDA is no longer a significant indicator of cash flow and that company's valuation should reflect that. Business managers are there to manage the day-to-day running of the company, so a potential buyer doesn't have to put on all the papers they would need to have in a smaller company. These numbers are valuable as relative indicators of business values, but they should not be relied upon to assess a specific company. While the above lists are not exhaustive, understanding the myriad of factors that affect multiples of EBITDA and the accuracy and quality of EBITDA can help a business owner better understand the value of their business and, in turn, at what price, realistically, they can expect to sell their company. After arriving at the figure based on EBITDA, a professional business appraiser usually tries to confirm it by first applying other valuation approaches, calculating the value of the company's tangible and intangible assets and, second, checking why the comparable companies were sold.
Cash flow and profit multiples represent the seller's discretionary earnings (SDE) declared by the business owners or brokers who closed the sale, divided by the declared sales price. In general, companies with a large proportion of revenues from a limited number of customers are considered to have a high concentration of customers and obtain smaller multiples of EBITDA, while companies in which no customer represents a significant proportion of revenue are considered to have a low concentration of customers and obtain higher multiples. For an accurate business valuation, it is essential to consider all factors that may affect its value. This includes understanding how multiples are used to value businesses and what factors influence them. Additionally, it is important to consider other valuation approaches such as calculating tangible and intangible assets as well as checking why comparable companies were sold.
Furthermore, cash flow and profit multiples should be taken into account when assessing SDEs declared by business owners or brokers. For timely, comparative sales data for a specific business market, see BizBuySell's business valuation options. For a business valuation based on timely local valuations, see BizBuySell's business valuation products. The basis of any business valuation is the amount of cash flow that company can be expected to generate in the future. If you are making a business valuation for a private company based on a multiple of EBITDA, keep in mind that multiples of EBITDA may or may not be appropriate depending on the size of the company.
Essentially, the value of a company is based on the amount of money it is expected to generate in the future. This method is the most accurate way to value companies in order to sell them to a third party on the main street or in the lower middle market to carry out M&A transactions.