Jeff Chung is director of adviser services with U.S. Business Exchange Inc. of Santa Monica, Calif. Next month: "Managing the valuation of your company during periods of economic slowdown."
An economic slowdown combined with decreasing consolidation activity will be the primary drivers of enterprise value within the plastics industry during the next few years. This slowdown has reduced the availability of both high-yield and bank debt, which in turn puts pressure on the ability to execute transactions, as well as the ultimate valuation placed on companies. As a result, owners will find that their businesses are not worth as much today as they were just a year ago.
The slowdown puts increased emphasis on transactions that make sense in strategic terms and involve strong performers relative to the industry. Traditionally, smaller companies in the plastics industry are valued based on multiples of EBITDA (annual earnings before interest, taxes, depreciation and amortization), with adjustments made for higher sales volumes and stronger asset bases. In addition, proprietary technologies often bring additional premiums.
Unfortunately for current business owners, companies that may have sold for as much as seven times their cash flow 12-18 months ago, today will sell for only 50-60 percent, or 31/2-41/2 times, of that amount.
However, the strong performing companies that have the characteristics most desired by strategic acquirers will be able to obtain values at the high end of this range and possibly higher. These desirable characteristics will likely include:
Critical sales mass.
Specialization, especially within protected market niches.
Streamlined and efficient processes that eliminate unnecessary complexities.
Proprietary product offerings.
Strong management team.
An attractive and loyal customer base.
These characteristics are fundamental to strategic acquisitions during any economic climate and become critical in today's tighter markets.
What does this mean for you? It means for those desiring to build value in their company, an eye must be kept on managing the business in terms of key value drivers.
Our experience shows that most owners of small and medium-size businesses don't actively manage their businesses to maximize value over the long run.
Too often, owners are focused on areas that do not effectively increase the value of their businesses, at the expenses of those areas that do.
In this era, that means you get left behind.