Whenever I am involved in helping someone sell or buy a business, there is always the question about the valuation of the business. In simple terms, people want to know the true value of a business. I am often struck by how people are either not aware about their valuation or the importance of knowing what the valuation is. Even more frustrating is when people value their business on what someone might have said to them. An owner of a commercial cleaning business guessed his business was worth $25 million despite the fact that his annual net profit was only $500,000.
Valuation, says Google, is “a quantitative process of determining the fair value of an asset, investment, or firm. In general, a company can be valued on its own on an absolute basis, or else on a relative basis compared to other similar companies or assets.” In many cases the value of a company is simply calculated by taking the annual net profits (after taxes) Many transactions are based on EBITDA-Earnings Before Interest, Taxes, Depreciation, and Amortization). In many of the deals that I was involved in the sale price was 3-4 times the net worth. For example a business with a net profit of $1million would be sold for $3.5 – $4 million. This is known in the industry as “multiples” which in this case would be 3-4 times the net profit.
In a recent inheritance case, the main issue was the distribution of assets that included a factory. The valuation of the business became a contentious issue in surrogate court. The deceased owner’s wife produced an accountant that projected a far lower valuation than the factory’s accountant.
While valuation may be a tool to calculate the value of a business, it is also a way of ranking a business in the industry. In other words, what is the business worth as it relates to the industry that the business is in. I routinely monitor studies in the food industry. In its 2022 food and beverage report, Brand Finance valued Nestlé at $20.8 billion, up from $19.4 billion, nearly twice that of runner up Chinese dairy brand Yili at $10.6 billion. Following Nestle’s is Snack brand Lay’s at $8.6 billion. Some of these large companies often acquire each other and their positioning in the industry becomes crucial to the deal.
Hershey, the brand value consultancy said, ranked as the world’s “strongest” food brand which would be a huge factor in any transaction. The world’s fastest growing food brand? Belvita, a breakfast biscuit first introduced in France in 1998, which grew its value by more than 60%. Pepsi ranked No. 2 behind Coca-Cola in the non-alcoholic beverage category, as the duel between the two behemoth brands continues. You can imagine how important it is to Coke and Pepsi to be number one. In years past Hertz Rent a Car touted the fact that they were number one only to have Avis come up with the slogan: “We try harder.”
I recently worked with a restaurant doing about $3.5 million a year in 2019 but since Covid the sales sharply declined. The owner was anxious to sell but needed to come up with a valuation which would have included a fairly successful catering business. He wanted to base the sale on 2019, arguing that the business will bounce back to 2019 levels but he wants that reflected in the purchase price. A business broker told me that businesses that performed well during and after Covid receive special recognition from potential suitors. They see the business as stable and resilient. Those businesses, the broker said, can command more than the usual multiples.
Many evaluations these days reflect, in part, how brands performed, reacted, and adapted amid these and other post-COVID-19 changes.
“People are returning to the brands they love,” Savio D’Souza, head of EMEA (Europe, the Middle East and Africa) consulting at Brand Finance, said in a written statement. “Food brand values are back above pre-pandemic levels.”
Coca-Cola’s top rankings in the “most valuable” and “strongest” categories for non-alcoholic drink brands globally were supported by a brand value of $35.4 billion, up 7%. Brand Finance said Coke is “rejuvenating its brand offering to meet consumer and regulatory demand for low sugar content beverages.” Coca-Cola today offers a wide range of zero-sugar products that help it “remain relevant in a competitive industry,” according to the study.
“As pandemic restrictions recede in the rear-view mirror, many non-alcoholic brand values are surging,” D’Souza said. “People are once again able to easily get together for a Coke, a Pepsi, a coffee or cup of tea.” Pepsi took second, at $20.7 billion, up 12% in value and strength among non-alcoholic drinks. Brand Finance said Pepsi “acknowledges a new business reality whereby consumers are becoming more interested in the future of the planet and society.” Doing good really can be good for business.
Valuations do become a bit tricky for startups. Ron had developed an app that monitors sleep patterns in people especially those with sleep apnea. He did well with the product in an Asian country, which he called a “test market,” and had very strong projections from a leading business consulting company. His sales in the test market barely reached $1.2 million but his business plan listed the valuation at $60 million. He explained that he hopes to reach at least $35 million in sales by 2025 but most business experts, especially brokers will tell you that although an occasional investor who is passionate about an idea may bite, it mostly will fall on deaf ears. The business broker put it this way: “I have an occasional client who will bet on the future, but most are looking for a track record and a history of success, and not on futures.” He went on to say that there are buyers that will gamble on a startup or poorly performing business because they have a plan to capitalize the business and make it profitable. “In general serious investors are more apt to look at performance rather than futures.”