Multiple Expansion
February 22, 2022
by a searcher from Samford University - Brock School of Business in Birmingham, AL, USA
Does anybody have a good outline of the thresholds where expansions in valuation multiples occur? I am sure this will vary across industries, but it would be great to know some of the following:
At what revenue do multiples increase?
At what EBITDA do multiples increase?
What level of ARR is required for an increase?
Any other variables that might result in an increase would be great to know as well. Thanks in advance and apologies if this is laid out somewhere and I could not find it.
from University of Pennsylvania in Los Angeles, CA, USA
Those are all factors that are internal to the company. Beyond that, supply / demand factors could cause higher multiples too -- think about a really competitive brokered deal. A company might be worth / initially purchased at 5x EBITDA, but if there are 5 or 6 really interested parties (who know that there are 4 or 5 others bidding on the same asset), they might be motivated to bid 6x, providing the seller with some form of multiple expansion. Another major external factor that might cause buyers to bid higher purchase prices (yielding multiple expansion in the process) is the record amount of dry powder being poured into private capital, including the search fund space... that extra cash floating around has to go somewhere, and it brings purchase valuations up.
To answer your question though, it's probably more of a spectrum than a formula. Generally, best-in-class service companies might top out at mid-to-high teens. You might be able to buy a commercial landscaping company for 3x EBITDA in a brokered process; Brightview trades in the public markets at ~9x LTM EBITDA (currently at $2.591bn of revenue as of LTM 12/31/21). A private equity firm might take them private at 10-12x. Hope this helps. Others should chime in too.
from Northwestern University in New York, NY, USA
I don't have an answer to that question either, but conceptually it feels like the buyer universe follows some sort of bell curve. At either tail, e.g., small companies and large companies, there are fewer buyers willing or able to trade than somewhere in the middle. Moving from small to large, simply by virtue of access to financing and appealing to larger investor groups I imagine competition for assets would drive multiples up.
As noted before, there are a myriad of factors to consider when valuing a company. However, here is part of my own subjective yardstick for the first step-ups in valuation: 1) small companies that don't have enough earnings to support dedicated management teams and generally lack any meaningful levels of professionalization (systems, SOPs, etc.) are capped at 3x; 2) willing owner-operators buying into a well-functioning organization with the goal of driving efficiencies and growth could stretch and pay up to 5-6x; 3) anything above that would resemble a private equity/passive investment where you as the owner set goals and entrust a management team to hit those targets.
1) < $500k EBITDA|2) $500k - 5m EBITDA|3) > $5m EBITDA
PS: obviously nothing high growth or even remotely software related..................