A discussion of valuation – how to approach it, what to bear in mind, pitfalls, pros and cons plus examples of real-life valuations.
If the following sounds like M&A 101 then apologies, but a remarkably consistent theme of most valuation discussions in which I’ve been involved in the past 25 years or so in this industry, is that some or most of them get lost, forgotten or abandoned at some point along the way in pursuit of getting the deal done.
Absolutely the way to start is by saying that valuation is never what it’s worth to you. Value is always the value that you can deliver to the buyer. It’s a crucial shift in mindset for a high proportion of agency owners, but truly fundamental. By extension, this also means that not every buyer will place the same value – and pay the same price – for the same business, as the post-deal model may look quite different for the acquirer or investor. By way of example, a “classic” multi-year earnout with an international network where an agency finds its own way and makes its own luck and fortune post deal is both a different acquisition model and a different value realisation model than an agency being re-set for future sale through a private equity investment or being integrated into a management consulting firm on a totally different rate card and client engagement model.
If that sounds like common sense, the next appears to be bleeding obvious. Value is not the same as the Multiple. Multiples do not pay mortgages or school fees. Value in this industry is generally an equation of profits times a Multiple over a period of time. Naturally the Multiple is important but equally important is profit. What agency wouldn’t be flattered by a 15x EBITDA multiple? Perhaps the one that recognises that the four years of compound growth at 50% to trigger it is a touch out of reach. Valuation is achieved through the art and science of negotiation, and this requires balance and an honest grounding in the economic realities and limitations of both buyer and seller.
Negotiation is in turn primarily a listening skill. The two ears and one mouth cliché. You’ll drive the profits post deal just as you do, albeit if you’re doing a fair deal you’ll get support and accelerate your growth and that growth will count in full forward the profit element of your valuation equation. Listen so you can work the system in the negotiation; buyers can seldom offer a higher multiple than the one at which they themselves are valued. This doesn’t mean, however, that they can’t help you in other elements of profit such as providing subsidised or free support or access to infrastructure that has little to no incremental cost to them.
Valuation is also a function of currency. One of the smartest and disruptive (but inherently common sense) elements of S4 Capital’s M&A blitz has been to strike strong valuations underwritten 50% in S4 shares. If S4 delivers against its full market potential, the 50% in shares taken by the sellers is going to look like a spectacularly good entrepreneurial bet. If it doesn’t and headline cash valuations fall if S4’s share price doesn’t rise, then not so much. In early stage groups, even large ones like S4, where entrepreneurs can genuinely influence the value of the equity that that they are receiving for their own equity that they’re giving up this is a very fair bet. “Paper” in multinational monoliths where whether you sink or swim won’t register on the dial starts to make a lot less sense. “Paper” often also comes wrapped in restrictions on liquidity and anything that potentially limits cash value can’t be ignored.
Striking a valuation when selling your agency is part of a wide and multi-faceted negotiation, that extends far beyond profits, multiple, term, and cash versus paper. Knowing the buyer’s value equation and how you fit allows you to establish the boundaries of the negotiation, and it is wise to always negotiate in the round. If a market-busting cash price payable in completion means that you’re locked out of the market for the next five years or might have to hand back a chunk of that cash during the first several years because you’ve not hit some kind of performance target, etc. perhaps it’s not that great an outcome after all.
The final critical note on valuation rests on how you go out and engage with potential buyers. This is a relationship business. A trust and confidence business. It’s unlikely you’re selling a piece of IT or pure tech, but rather a team of people with clients (more people) who’ll be working with the buyer (and their people). There are different schools of thought as to how best maximise value in agency M&A, and I can unequivocally assure you that the answer relies on taking a relationship-based approach. You can truncate timelines by being super-prepared for the whole process from the very first day you start talking to people. By setting up a data room early. By being thoughtful about the best buyers to engage and exactly the value proposition you want to explore with them. But treat them like the dream client you really want to land. You’d never tell Pepsi that you’re also talking to Coke and really you don’t care which one you work with, it’s just about who pays the higher fees. Would you?
It’s really not rocket science. Be thoughtful. Be deliberate and think in the round. There are many routes to value and many forms of value. The next time you’re out in a bar and someone is telling you about the knockout deal they did for themselves and their agency, just run these ideas past them and see how the conversation unfolds.
This article was written for Agency Dealmasters Magazine, appearing in their December issue.
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