If you are thinking of selling your staffing company, the first question for many owners is, “Is my company ready?” Answering this question requires an understanding of the valuation methodology for staffing companies, including metrics used to assess the businesses’ operations.
Staffing companies are typically valued based upon a multiple of earnings. The buyer and seller will agree (typically after much negotiation) upon an appropriate annual earnings figure for the business, most commonly the last twelve months of earnings before interest, taxes, depreciation and amortization, while adding back proper non-recurring expense items, such as excess owners compensation, or other extraordinary expense items. A multiple will then be applied to this earnings base to calculate the proposed purchase price.
As the agreed upon earnings base is a key component of the valuation, it makes sense for a seller to attempt to maximize this number for purposes of selling the company. For many companies, the last few years have brought substantial revenue growth. Has this growth translated into increased profitability for the business? The highest valuations are typically achieved when earnings are both strong and expected to continue growing for the next several years. Likewise, buyers may be most aggressive when the outlook of their acquisition target is its brightest. Waiting until this growth plateaus typically causes most buyers to reexamine their outlook for the target business, reduce their proposed valuation or at least shift a larger portion of the proceeds into contingent consideration. Trying to time the market in this manner is one of the most common mistakes inexperienced sellers will make.
PREMIUM CONTENT: Staffing M&A multiples and activity
Understanding how a staffing company’s business operations will be evaluated by potential buyers ties in directly with how valuation multiples are determined. Simply stated, valuation multiple ranges are determined by examining the specific characteristics of the seller’s business versus other similar companies and the prices at which they were sold. While many factors affect value, a potential seller should consider these primary determinants of value as they assess whether their company is ready for a sale.
Size. In general, larger companies command a higher relative value and are more likely to sell at the high end of the quoted multiple ranges. A greater market presence, historical earnings stability, a more diverse customer base, lower integration risk, and increased growth opportunities are generally associated with larger companies.
Growth rate. One of the most critical determinants of value is the current and projected growth rate of sales and profitability in comparison to both past company performance and current industry standards. A buyer will frequently pay a premium for a business exhibiting strong growth trends that are deemed to be both sustainable and in line with or exceeding industry norms, as this will allow a faster return on their investment. As growth slows, multiples go down.
Gross profit margin. In most cases, the higher the gross profit percentage, the better. If a company’s gross profit percentage is perceived to be unrealistically high, a buyer may question if it is sustainable. If a company’s gross profit percentage is declining, this may be an early indicator that sales may also soon decline, as the company may be reducing margins to keep existing business.
Experienced management and staff. Breadth and depth of management are very important to most buyers. The value of a company is impacted by the buyer’s belief that management will be motivated to continue the company’s success after a sale. Retention of a competent staff is essential.
Diversified customer base. A diverse customer base will allow for a higher value than a concentrated client list. The characteristics of the client base are also important, such as the industries represented, the type of skills required, the history, and the relationships with clients. Direct relationships with clients are preferred over subcontracted relationships.
Deciding whether this is the right time to sell your business is a complicated question, driven by personal, business, and market determinants. Even though a very good market exists for many growing staffing companies, a sale may not make sense if the company is not currently firing on all cylinders. On the other hand, it is a risk for owners to defer a sale based solely on the hopes that valuation multiples will increase more than the already strong multiples currently prevailing. Ultimately, staffing company owners should always be preparing for a future sale, so that when buyer interest is high, as in the current staffing M&A market, their staffing company is ready to sell.
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