How Business Valuation Becomes an M&A Offer

As an M&A advisor to owners and senior managers of print and graphics communications companies, I'm often asked how we come up with an offer. In other words, how does a business valuation translate into "price" and "structure" in the Term Sheet stage of the process?

My colleagues and I at the NAPL M&A Advisory team usually start an assessment with the NAPL "State of the Industry Report" which is even more important than the financial statements. Simply, is the company a "leader" (as defined in Andy Paparozzi's research) or is it "treading water" or just being "milked"?

You probably know by now that a high "price" and favorable "structure" with mostly cash at closing is reserved for "leaders." From an analysis perspective, we value the business as a "going concern" based on adjusted EBITDA that takes into account owner's compensation and other factors. Numerous variables affect the calculations including the number of years to look back, the nature of the work and the customer base, the impact of customer concentration, the rate of attrition of revenue due to industry pricing trends, the dependence on owners or a sales team, geography and capacity for growth.

If the company is a good company but not a leader, the EBITDA approach may still be applicable. But for companies in our industry without much "e" in EBITDA, we need to focus even more on valuing the underlying assets.

The intangible assets are valued based on M&A marketplace conditions as reflected in the willingness of buyers to pay for customer revenues that add incremental profits to an under-utilized infrastructure. Intangible assets are all about customer relationships: the type of customer, the nature of the work, the connection to the customer, the likelihood of maintaining the business, and the potential for expanding it.

Equipment is appraised to reflect either "orderly liquidation value" or "fair market value" without regard to things like desks or coffee makers. Typically, our equipment guy comes back with a good reading on equipment values within 72 hours of getting the required information.

Perhaps the most important variable in going from "valuation" to "offer" is to assess and quantify the synergistic benefits that the company brings to a strategic acquirer. This is all about consolidation savings and revenue enhancement. Not only do we have to "value" this, but, the holy grail for successful M&A in our industry is to fairly allocate which side gets the benefit of synergies and which side takes the risk of those synergies not coming to fruition. Art, not science. This is why I don't see how an owner would consider non-printing industry professionals.

Lastly, we layer in the "needs" and "wants" of owners (and/or creditors in distressed cases). It used to be a huge divide between "reality" and "expectations". We've seen that gap decrease in recent years as owners are learning more about valuation and M&A. They "get it", this is a tough industry and day to day challenges eventually translate into lower expectations when it's time to make an exit from ownership.

I hope that this gives you a better understanding of what goes on behind the curtain, as a business valuation morphs into an offer in a Term Sheet.