Parameters for higher multiples

April 28, 2024

by a searcher from Western Governors University in St. Louis, MO, USA

Hi all!

Are there any market standards for multiples in terms of growth? Everything I've read says 3-4x multiples aside from tech and they can be above that with consistent long term growth? The reason I'm asking is I'm seeing multiple deals at +4.5x with minimal seller financing meaning nowhere near even 10-20%. Are these just factors of the current market? Or are the brokers over listing the price knowing they'll be negotiated down? In that same breath, is there a reason for lower seller financing? As a searcher it makes me nervous with minimal seller financing as this is a sign the seller may not be confident in long term sustainability. Thank you!

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Reply by a searcher
from Tufts University in Jersey City, NJ, USA

This is a fun one as vet med multiples tend to be much higher, i.e. >>8x in many cases. As others have said, "quality" of EBITDA and downside/upside risk/reward plays a big role in purchase multiples. Different industries will have better or worse conversion of EBITDA to Free Cash Flow, with higher conversion leading to better multiples. Things like poor conversion of receivables to cash (healthcare businesses that interact with insurance, for example) can lead to lower multiples of EBITDA since each dollar of EBITDA has lower implied value when we think of it as a proxy for cashflow. CapEx is another big factor that can drive down EBITDA multiples, since depreciation and amortization are much more relevant to cash flow for high CapEx businesses and again EBITDA becomes a worse proxy for FCF for those businesses. Industry growth dynamics, insulation from economic trends, and potential downside scenarios (particularly for any keyperson-risk businesses) further shape multiples.

Take the time to deeply understand what "market" is for multiples for whatever industry you're buying in, and then adjust within that range depending on the quality of the business itself and your diligence findings. Every industry is going to have a different "market", so there's no one-size-fits-all figure.

Reply by an investor
from McGill University in San Diego, CA, USA

If you are using an LBO model, you may want to backsolve what needs to be true if the multiple rises to 6x, 7x, 8x, etc, and the IRR remains fixed at 35%... how fast would the company need to grow and is that a plausible assumption (has the company ever grown that fast)? If the answer is no, you can start tweaking the cost structure in the model, but again, I would ask how realistic is that assumption (To be conservative, you will want to avoid making alterations to the amount of leverage you take on or assuming a materially higher exit multiple).

Conversely, you can keep all of your growth/cost assumptions fixed and see what happens to the IRR as the valuation you offer rises. My hunch is that the more the IRR falls, the higher the step up you will likely need to pay your investors to compensate them for the lower expected returns, which ultimately will lower your ownership stake and take home pay.

My experience is that when you need to start using the word "And" a lot just to make the numbers work (I need this to happen AND this AND this to hit my 35% IRR), instead of "OR" (I can win big if this happens OR this Or this), you introduce a lot of risk into the deal. If you are going to pay up, make sure you are pretty confident about the company's growth trajectory.

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