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The value of a company has many dimensions. As a rule, it is only truly relevant when a corporate transaction is involved—such as the transfer, sale, or merger of a company. Even the purchase of a stock on the stock exchange is based on determining the company’s value at the moment of its (partial) sale. One might think that dealing with company value is a routine matter, but nothing could be further from the truth. It is a mystery that warrants closer examination.
The common methods of corporate valuation are well known: the earnings approach, net asset value approach, average value approach, market value approach, and discounted cash flow (DCF) approach form the cornerstones upon which a multitude of derivations and specifications are based. It makes little sense to analyze these methods in detail here. Each has its own advantages and disadvantages, which fill entire textbooks—and which the tax authorities may assess quite differently.
The specifics of the valuation definitely also correlate with the industry of the company under consideration. The perspective of an M&A advisor who primarily deals with mid-market transactions in the tech, IT, and software sectors definitely has a different focus than that of a colleague looking at—for example—the healthcare and pharmaceutical segments with corporate structures.
The size of the companies under consideration alone constitutes a significant valuation factor, from which professional corporate acquirers—aka private equity firms—on the market benefit most. These firms systematically acquire companies, consolidate them under one umbrella, and then sell them on as a group with varying degrees of success. One could also say they “negotiate their way through” this, without meaning it in a negative sense. It must be acknowledged that private equity firms have successfully institutionalized the well-known principle that “size matters.”
In the world of mid-sized IT system integrators—where a wave of consolidation has raged in recent years and the synergistic effects of these acquisitions have materialized only to a limited extent—this simple mechanism has yielded excellent arbitrage profits: Acquire a handful of smaller system integrators at a multiple of 5 to 7 based on current EBIT (typical deal size: EUR 0.5 to 1.5 million), drive forward the company’s internal digital transformation, roll out long-term contracts with customers on a large scale, and then monetize the entire structure (typical EBIT range: 10 to 20 million euros) at a multiple of 12 to 20. And just like that, you’ve at least doubled your initial investment.
If you look behind the scenes of the buzzword “consolidation,” it makes one thing very clear: Companies have life cycles that must be recognized when determining a company’s value. Does a company have a valid business rationale and is it still well-received in the market, but has it perhaps failed to make important adjustments and respond to trends? Is management at a stage in its life cycle where decisions regarding succession must be made because the company owners no longer have the energy to usher in the next stage of the company’s evolution? Often, investments and restructuring are called for, which long-time business owners tend to avoid in light of their own dwindling time on earth—without this necessarily constituting a significant oversight. Nevertheless, such issues reflect a key aspect in the SME sector that subtly impacts the company’s value.
And, of course, there’s the CEO who holds all the reins: from recruiting talented young professionals to acquiring customers and even product development. This dynamic force has grown the company from zero revenue to 20 million euros in 30 years, but now it’s becoming a liability for the company’s value: the concentration of power and dependence on this key individual is far too great. It results in a discount on the company’s value.
What I’m really trying to say is this: a company’s value reflects all of its factors. It is definitely something very fragile—and, of course, highly situational. While determining a company’s value can be expressed in formulas, it remains a highly nuanced task. Ultimately, the question arises: How can one incorporate all the relevant factors that make up a company’s value into a valuation? Is that even possible?
Checklists are an excellent approach for getting to the heart of the matter. Of course, individual revenue and cost categories can be reviewed this way, and a company’s business plan can be validated as the basis for a valuation. In addition, AI-based tools are becoming increasingly easy to use and more meaningful; they first analyze a company—right down to its social media reach, which today represents another fundamental piece of the corporate value puzzle. To date, artificial intelligence still struggles to produce a final enterprise value for SMEs with a value of up to approximately EUR 20 million: Simply because there are hardly any reference transactions available online with a detailed breakdown of valuation criteria that would allow for corresponding calculations for companies of this size. However, given the trend toward greater connectivity and increasing automation, it’s reasonable to assume that greater transparency will emerge in this area as well.
In addition to all this, the most important tool for determining a company’s value is a personal, empathetic conversation between the parties involved in the transaction—typically the buyer and the seller. Based on the available figures (balance sheets, income statements, trial balances, etc.), it is easy to determine during the conversation how a company is positioned. How the business model actually works, how leadership is understood and practiced, how employee retention is managed, what acquisition means, how a company is positioned for the future and for fulfilling its own business plan, and how much potential a company offers: synergies, structuring, efficiency gains, but also market and growth opportunities. The result is that the EBIT multiple can be significantly lowered—or raised.
This makes it clear: enterprise value also has to do with respect. The owner’s respect for their company and the entire ecosystem that defines it. After all, a company is the interplay of many internal and external relationships, connections, and mechanisms. But corporate value also has to do with the buyer’s respect for the company being acquired: This means seizing the opportunity. Listening closely and observing carefully. To give it some thought and engage with the other party. And then, dear buyers, at some point, to actually come up with a “figure.” Initially just as an indication, but still something to use as a guide. To be honest, that shouldn’t be too difficult. To show how a buyer thinks, they don’t need employee and customer lists, lease agreements, product descriptions, sales plans, etc.
The 3B basics are enough: balance sheets, business analysis, and relationship (in the sense of conversation and exchange). At this point, it’s actually quite simple to express your valuation: with a certain degree of promptness, because spending weeks poring over the data provided won’t, if anything, make the waters any warmer for the buyer who will eventually have to take the plunge. With a certain degree of appreciation when determining the company’s value, because a strikingly low valuation certainly does not improve the emotional dynamic between buyer and seller. On the contrary. It shows that the potential acquirer is not a realist, which will certainly make long-term collaboration with them unpleasant. Yet it is the seller who ensures that the enterprise value is maintained and even increased after an M&A transaction. After all, the seller typically remains on board for another year, if not several years. Company value is therefore also reflected in the seller’s willingness to work together with the buyer. Thus, through their behavior, buyers hold the company’s value in their own hands.
