Assessing Business Value: Availability of Capital

When assessing the value of any business, I almost always start by considering the amount of debt that a potential buyer will be able to secure to fund a purchase.

Here are some characteristics of a very attractive business:

  • Annual sales = $10.0 million
  • Annual EBITDA = $1.5 million
  • Customer base is diverse
  • Products are all based on newly issued patents

When lenders are active, and the economy is robust, a potential sale of this business may close with the following terms:

  • Buyer equity = $2.0 million
  • Buyer debt = $6.0 million
    • Total transaction value = $8.0 million (5.33 X EBITDA)

When lenders are more risk adverse, the same business may sell under the following terms:

  • Buyer equity = $2.0 million
  • Buyer debt = $4.0 million
    • Total transaction value = $6.0 million (4.00 X EBITDA)

Note the fundamental business has not changed, yet the value fluctuated significantly.  Also note that the amount of equity or cash that a buyer contributes has not changed.  That is a safe assumption in that in most cases buyers only have so much free cash to make acquisitions.

The best advice I can give to potential sellers trying to determine the value of their business is to start by assessing how much debt a potential buyer can secure.

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