08/01/2024
📊 Why Buying a Business Can Be Smarter Than Starting One 🏢
Understanding the importance of deep-diving into the numbers is crucial. This analysis will equip you with the essential insights to make informed and strategic decisions.
Industrial Supply Business - Deal Review
🔍 The Balance Sheet: Uncovering Discrepancies
First, let's examine the balance sheet. A significant discrepancy jumps out: the company's reported inventory is listed at $2 million, but the confidential information memorandum (CIM) lists it at only $820k. This large gap requires further investigation, as such discrepancies can significantly impact the borrowing base and potential financing options. For now, we'll conservatively go with the $820k figure.
📈 Revenue and P&L Analysis: Digging into the Numbers
Next, we look at their P&L statement and notice some red flags. For 2023, the business shows discretionary earnings of $487k, with figures for 2022 and 2021 at $450k and $360k, respectively. However, these numbers do not align with the adjusted net income presented by the broker, raising questions about the ad backs—owner salary, benefits, depreciation, interest expense, and others. This inconsistency suggests possible disorganization or underlying issues that need addressing.
💰 Valuation Matrix: Determining the Company's Worth
To establish a baseline, we map out the valuation using Seller's Discretionary Earnings (SDE) across the past three years (2021-2023). We average these figures and estimate a reasonable SDE of $475k. Using industry-standard SDE multiples, we value the business at approximately $1.1 million, with a potential range from $900k to $1.4 million.
🏢 Real Estate: Adding Value
The company's real estate adds another $1.9 million to its value, bringing the total business valuation to around $3 million. However, the broker's price stands at $4.4 million—a significant overvaluation based on our analysis.
🧐 Broker’s Valuation: Analyzing the Discrepancies
The broker likely arrived at their number by averaging an inflated SDE of $600k and applying an ambitious multiple of 3.5. Adding the real estate, they reach $4 million, still 10% shy of the listing price. This high SDE and multiple don't align with the business's actual performance and cost structure based on my review of the P&L.
💡 Expense Analysis: Identifying Realistic Savings
To unpack that, let’s examine how they calculate SDE and look into operating expenses. For 2023, the company had $6.2 million in revenue, with COGS at $3.6 million, leaving a gross margin of $2.5 million. To reach a $600k SDE, operating expenses must be $1.9 million. However, their actual expenses were around $2.27 million, leaving a profit of just $263k. Even with generous adjustments, reaching the broker's SDE figure seems implausible.
🔧 Deal Structure: Crafting a Win-Win Scenario
Assuming we accept the $475k SDE and a 2.5 multiple, the business's value remains at $1.1 million. Adding the real estate, we get a total value of $3 million. Here's a potential deal structure:
$1.9 million at close, primarily collateralized by real estate.
$700k seller note.
$500k earn-out, structured as $100k/year for five years with EBITDA targets.
This structure, leveraging a $1.9 million loan primarily backed by the real estate with a 20-year amortization, leaves about $183k of free cash flow. This is a solid, realistic framework compared to the broker's inflated expectations.
📝 Conclusion: A Cautious Approach
While the industrial supply business is overvalued at $4.4 million, a realistic valuation and structured deal can make it a viable acquisition. Always dig deep into the P&L, question inconsistencies, and ensure the proposed earnings are achievable.
I hope this analysis was helpful as you evaluate potential acquisition opportunities. If you're considering buying a business or need guidance on your next venture, reach out to me. Let's discuss how we can make your business acquisition a success!
