Valuing a HoldCo When Acquisitions Are Kept Separate?

December 05, 2021

by a searcher from University of Manchester in Seattle, WA, USA

Hi,

I and my partner are in the process of acquiring our first company as part of a wider roll up in the professional services space. All acquisitions will be in the same industry and closely related. I have been contemplating the pros and cons of merging companies versus keeping them separate. One key factor to consider is multiple arbitrage in each scenario. How does each option impact the valuation of the HoldCo when we exit? Does keeping companies separate limit the valuation? Is a 'network' of like companies less attractive to buyers than one, much larger company?

How would you value a network of companies? Would you simply value each company according to a multiple of EBITDA then add them together?

Any insight appreciated.

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Reply by a searcher
from University of Illinois at Urbana in Ann Arbor, MI, USA

Andrew, absent any context, spec. regarding why you'd otherwise are considering keeping them separate, I agree with Jeff. that said, for sake of argument I'll offer a strawman reason why one might want to keep the acquired companies. esp. professional services firms, separate...at least for some period of time.

Small professional services firms are relative more reliant on senior leadership talent for client acquisition, retention, and even service. So, if the owners of your acquired firms are rolling significant equity and staying engaged as go-forward leaders, it might be worth considering the "confederated" model.

But, to Jeff's point, you must move to integrated non client facing aspects of the business, e.g., acctg. HR, IT, medical insurance, retirement. You'll pay dearly upon your exit, if you leave this issue for the NEXT owner This has 3 benefits (1) cost'/scale efficiencies, (2) a standardized way of doing things; and (3) you'll free up signif. time of the leaders you're buying from. I'll guarantee they are better at selling/doing client work than overseeing corp ops! So, you'll grow faster AND be more profitable.

Reply by an investor
from Harvard University in Denver, CO, USA

There are two reasons I think the combined approach is preferred, one financial and one operational. As you mentioned, multiple arbitrage is a key driver of roll-up returns. It's going to be a lot easier to justify multiple expansion when you say "we built a business with $XX million of EBITDA" rather than a portfolio of businesses with the same profitability, as you haven't really done anything to justify value creation in the second case. I think the second reason is actually more important, which is that a big challenge in any roll-up strategy is battling complexity since each business you buy will have different ways of doing everything that they do. That's fine when you buy your second one, but when you get to 10 that's going to be incredibly difficult to keep track of. Enforcing standard operating procedures through consolidation will help you run this porftolio more effectively.

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