# Calculating business valuation multiples: methods and data sources

If you need a fact-based, objective valuation of a private company, market-based methods are an excellent choice. These methods help you establish the value of a business in comparison to recent sales of similar firms. The most widely used methods to conduct such market-based valuation are these:

• Comparative transaction method.
• Guideline publicly traded company method.

To use the comparative transaction method, you calculate the fair market value of your company by comparing the actual selling prices of similar privately owned firms in your industry sector. While the comparisons of this sort can be compelling, the availability and quality of business sales data must be carefully considered.

### Reliable stats on private business acquisition deals

Just about any industry has a large number of small publicly traded companies. With proper adjustments for lack of marketability, you can do effective market comparisons using the business sales transaction data on these firms.

Data on public companies tends to be much more plentiful and reliable since these firms must make regular disclosures of their financial condition and merger and acquisition transactions.

### Guideline public company valuation method

Using the data on such small capitalization public companies is at the heart of the guideline publicly traded company valuation method. This technique is especially well suited for valuation of the mid-market private companies in the manufacturing, professional services, education, energy, distribution and retail industries.

### A number of business valuation multiples to choose from

Regardless of the method, the tools you can use to calculate the value of a private company are known as business valuation multiples. These multiple are ratios that relate the potential business selling price to its financial performance. Examples of commonly used valuation multiples are:

• Business enterprise value to gross revenues or net sales.
• Business value to gross profit.
• Business value to net income, cash flow or EBITDA.
• Business value to total assets or owners equity.

### Calculating the business valuation multiples

To come up with accurate multiples for your business valuation, you need to complete the following steps:

• Gather enough market data on comparable companies.
• Choose which valuation multiples you will be using in your analysis.
• Calculate the multiples from the data you have assembled.
• Make the appropriate adjustments to ensure that the valuation multiples can be used to calculate the value of your business.

### Collecting the business sales transaction data

By far the most reliable sources of comparable business sales are the regulatory filings made by public companies acquiring private firms.

#### DEFM14 regulatory filings of Merger and Acquisition (M&A) deals

In the US, the Securities and Exchange Commission (SEC) requires that all public companies file the DEFM14A and DEFM14C proxy statements relating to a merger and acquisition transaction. These data are available to the public via the SEC’s EDGAR database.

A professionally prepared fairness opinion stating the business enterprise value of the target company is included in such filings. Both domestic and cross-border transactions must be reported. This gives you access to business value estimates in practically all regional and national markets with significant M&A activity.

Since privately owned companies are frequent acquisition targets of public firms, you have an excellent source of audited financial statements and business enterprise values that serve as highly defensible sources of data to calculate your valuation multiples.

#### The advantages of using such data sources are many:

• Plenty of comparative data. Every acquisition deal done by a public firm must be reported.
• Reliability of data. Audited financial statements ensure that you have a reliable basis for calculating your valuation multiples.
• Defensible data sources. If challenged, you can point to the publicly available records in support of your business valuation conclusions.

### Private data services – buyer beware!

This is quite in contrast to private data services that tend to be limited in both the quantity and quality of available transaction data. Business brokers are under no obligation to report private deals, nor are they required to comply with accepted financial reporting standards such as GAAP. Using such incomplete and unaudited transaction records can give you very misleading valuation multiples that result in erroneous and indefensible valuations.

Once you have a sufficient number of comparables around, you can choose which valuation multiples to use. The choice may differ depending on the specific business being valued.

For example, you may choose to emphasize price to asset multiples to value an asset rich manufacturing or real estate business. On the other hand, a professional practice appraisal may call for earnings based valuation multiples such as price to EBITDA or discretionary cash flow.

For a comprehensive market-based business appraisal consider using a number of valuation multiples then averaging the results.

### Calculating the selected valuation multiples

Now that you know which multiples you are interested in, calculation should be straightforward. The important point to bear in mind is that, by convention, valuation multiples are based on the so-called business enterprise value.

This means that you determine the business value on a fully marketable, controlling ownership interest basis. This is how private firms are valued. Moreover, this is the way business value estimates are reported in the regulatory filings.

### Adjusting the multiples for valuation of private companies

If you have used guideline public companies in your valuation multiple calculations, do not forget to make these adjustments:

• Discount for lack of marketability. Private firms are less marketable than even small public companies. Discounts in the range of 30% – 50% are not uncommon.
• Control premium. Practically all private companies are sold on a controlling ownership interest basis. Market values based on per-share market price of public stock are minority interests that require control premium adjustments.
• Size premium. You can avoid this adjustment by selecting small cap public firms, say below \$100M in market capitalization. There are plenty in each industry sector.