Common Valuation Myths ? Fact vs. Fiction

At the ACA national conference in Washington D.C. earlier this month, our team did an agency owners workshop on “The Keys to Maximizing the Value of Your Business” and one of the topics we covered was “Common Valuation Myths.”

Valuation myths

We get calls frequently from owners who want to understand how to value a debt collection agency.  The conversation typically starts out with me asking some background questions – Why do you want to understand the value?  What is your role within the business? How is current financial performance trending? Are there any issues that we should be aware of (i.e. legal problems, health issues with the owner, etc.)?

The owner then typically asks some questions. Usually the last question from the owner is “What would be a good “rule of thumb” to value my business?” My response is always the same…There are no rules of thumb when it comes to valuing a collection agency.  Every agency offers a different value proposition to a buyer.

I typically reverse the question back to them and ask how they think it would be valued.  I have gotten some interesting responses over the years, anything from, “years ago an old industry friend of mine told me that agencies are valued at 1X gross placements.”  Another common response is “1X net fees or 5X gross revenue.”  Other typical responses are the “average of the past 5 year’s revenue.”

How are agencies being valued?

Fact…Agencies are valued primarily based on financial performance.  A buyer needs to get a firm handle on, year over year, how revenue (net fees) and profits have trended.  Most agencies had a challenging 2009 and their financials show that.  As a result, a buyer will want to get an understanding of what happened. Was it a client that stopped placing because they went out of business? Was it the overall economy? Did you staff up for a first party project that never came to fruition? More importantly, how are you positioned to bounce back from that decline?

Depending upon the size of the agency (see valuation chart below, based on data from Kaulkin Ginsberg’s proprietary done deal database that goes back to 1990), a buyer will determine EBITDA (earnings before interest, income taxes, depreciation and amortization) normalized for expenses such as excess owner compensation and other owner/executive perks and one-time expenses that would not continue post-transaction. Once a buyer can define EBITDA, how it has trended in recent years, and what is anticipated for the rest of the year and into the future (yes, a budget and projections matter!), they will apply a multiple (see below).

* SDE = Seller’s Discretionary Earnings
** Adj. EBITDA = Adjusted EBITDA

Every transaction is different, so again, there are no rules of thumb when valuing an agency, but do know that a buyer will put heavy emphasis on year-over-year normalized EBITDA performance when calculating a purchase price.

To obtain a complimentary copy of our power-point presentation from the ACA International conference, please email me and I will send it to you.

Michael D. Lamm advises owners on their growth and exit strategies for Kaulkin Ginsberg’s Strategic Advisory team. Michael can be reached directly at 240-499-3808 or by email. You can also read his blogs, follow him on Twitter, or network with Michael from his social media page on insideARM.com.