We often hear comments like “they paid how much!?” Sometimes people are amazed at how little a company sold for. Sometimes people are amazed at how much a company sold for. Over the past 25 years, we have learned that it is very important to understand what kind of buyer is involved, to fully understand a valuation.
Small private companies usually have limited cash, limited borrowing capacity. Accordingly, these buyers usually can only pay modest prices, due to their financing constraints (also known as the LBO method).
Publicly traded companies are often motivated in large part by shareholder value and accordingly price their acquisitions based on the Accretion Method. During times of favorable stock market conditions, these valuations can be high.
And in the middle of the market, large private companies and private equity firms often price their acquisitions based on the Discounted Cash Flow (DCF) Method, which tends to be higher than the LBO Method but lower than the Accretion Method.
So the next time someone says “they paid how much!?”… you can ask them what kind of buyer was involved.
Have a great day,
William Alderman
Founding Partner
