Buyer and Math Question

January 24, 2024

by a searcher from University of Virginia-Darden - Darden School of Business in Richmond, VA, USA

So I saw a business in a tangential industry to my own company is in. The adjusted “EBITDA” for 2019 through 2023 was $233k, $88k, $496k, $1450k, $1,500k. That’s a mean of $753k and a standard deviation of $603k. The business was hollowed out during the pandemic. And they told me they can’t get me numbers from before###-###-#### I reluctantly made an offer. They were insulted and said that they have standing offers of $5-$6MM. That’s a 7.3x EBITDA multiple if the price is $5.5MM.

So my question is two fold:
1) If you have a 7.3x EBITDA offer on a business that has a standard deviation as a percentage of EBITDA at 80% in a basic project based non high growth industry why on earth would you not sell that tomorrow?
2) Who would pay that for a corporate vents company?

Looking for perspectives on this.

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Reply by a searcher
from Harvard University in Manhattan, New York, NY, USA

1) Because in the abstract expected value for anything, which is all anyone cares numberswise in a sale barring nuance and secondary thoughts, is the Possible Value (here the offer) multiplied by the Probability of Occurrence. They must feel probability of occurrence is low, or that this EV math pencils well with other offers that are lower but higher probability of actually seeing the finishline. I think you may have answered your own question -- you would sell that tomorrow if the cash was in hand and the counterparty rock solid so something is rotten in the state of Denmark here...

2) Quick note on the math, we normally discuss Ebitda as a multiple of TTM Ebitda so here if it is really $1.5m, an offer at $5m is 3.33-4x, not 7+. Seems more sober and perhaps a bullish/confident investor is ready to forget about or heavily discount information from years preceding###-###-#### I definitely see deals priced sharper than the way you are doing the math and to play devil's advocate, I'm not sure it is entirely fair to talk about "averages" in the context of a 100-year global pandemic event. You should at least not weight that year's data the same way as others imo but just a discussion point and another perspective on the subject of massaging the figures.

Also, valuations can get higher for strategic acquisitions so the offering parties may see something here that is relevant only in their system or strategy synergy wise, or tied to some piece of knowledge they have developed confidence in (e.g. maybe they think the last 24 months are the best representation of the next 48 months). I like where @Vinil was going with his questions to better understand the layers of the business and its current potential vs. previous potential.

Reply by an intermediary
from Arizona State University in Long Beach, CA, USA

It's not uncommon for Buyers to throw out the Covid year/s info as an anomaly and focus on the most recent years. This business is doing around $1.5 mil in EBITDA over the last 2 years. If the Buyer believes that is a sustainable EBITDA figure going forward, they're paying a 3.67 multiple on a $5.5 mil offer. It's hard to give an opinion without knowing more details, but the question I'd ask is what do think the business will do in EBITDA in 2024? If that is closer to the 5 year average, you'd be correct that the Buyer is overpaying. If the forecast is closer to last year's EBITDA, they could be getting a great deal. What do the leading indicators show.....order backlog, sales pipeline, etc? Did they obtain new customers over the last couple of years that are very sticky and expect to continue doing business? Did they build up a stronger sales team recently? If so the revenue/EBITDA figure from 3+ years ago is meaningless in determining the future cashflow of the business. We shouldn't rely on the average of the last 5 years unless there is reason to believe that is the best way to project the EBITDA going forward.

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