Knowledge is power, and knowledge of your company's value is the ultimate power tool. Here's what you need to calculate your own magic number.
Meet me in the parking lot behind Luke's Hamburgers in 15 minutes." I was sitting in my hotel room at 10 p.m. when the phone rang and those orders were given. This is not the kind of offer someone generally considers from a stranger in a city 2,000 miles from home. But I was a cub reporter and the caller was one of the richest men in Texas, so late-night Luke's it was.
My new acquaintance was Jerry J. Moore. A high school dropout, Moore had made his fortune in shopping malls and had what experts considered the best car collection in the country -- and I saw evidence of both facts over the next two hours as he took me on a tour of his real estate holdings and then his house. It was an 18th-century French chateau, brought over stone by stone, and while we were there I sat in LBJ's old limo and gazed at shiny Duesenberg after shiny Duesenberg. Dressed in a polyester golf shirt, the squat Moore struck an unassuming figure (a neighbor once mistook him for a gardener and paid him to mow his lawn) but he was unquestionably rich, and the purpose of this midnight excursion was to prove to me just how rich he was. My job, as a reporter for another magazine, was to calculate Jimmy's net worth to the penny; his goal was to inflate it as much as possible.
I knew Moore was trying to play me -- the more valuable his company appeared, the better terms he could get from banks -- but I understood. The stakes were high. What are you worth? They might be the four most gauche words in the English language, but for any businessperson, whether a shopping mall magnate or shoe store owner, they might also be the most important.
A business's success is ultimately measured by a business's value. Public companies, with a quick glimpse of their market capitalization, benefit from a daily evaluation on this basis. But since most private business owners never calculate their business's worth until forced to do so, they lack similar insight. Knowledge really is power and, as Jerry J. Moore knew instinctively, knowledge of net worth is a tool. Knowing your net worth as a private business owner provides a useful snapshot of where your company stands, what options it has, and how it can improve long-term.
Think of net worth valuation for your company as a reality check. In calm times, you can view self-assessment as a luxury, but not right now, with business markets in historic flux. For private companies, valuations peaked sometime around January 1999, according to Business Valuation Resources, a Portland, Oreg.-based company that tracks private company sale transactions. Unfortunately, since the decline began in 1999, the business cycle has not yet rebounded.
Michael Gorun saw the signs early on. Values have been falling, on average, 25% a year since 1999 and Gorun, who founded CarSmart, one of a handful of websites that gained traction selling new and used automobiles, was particularly vulnerable. By 2000, he knew that he needed to do something quickly, but he wasn't sure of the correct route. Montgomery Securities and later Banc of America Securities both saw Gorun's firm as an attractive IPO or acquisition candidate and were suggesting his company was worth between $80 million and $200 million. "It was like throwing a dart at a board," says Gorun. Such a head-spinning valuation could have given him a false sense of confidence while the markets crashed around him.
But, lacking faith in those with an incentive to give him an unrealistically high valuation, Gorun hired an independent valuator, American Business Appraisers, based in Danville, Calif. By paying for his own research, his appraiser gave him a number that was disappointing -- in the $30 million range -- compared with the giddy IPO figure bandied about by his bankers. But it was a number he trusted, one that more accurately reflected the market. Gorun began shopping CarSmart with a far more realistic attitude and eventually sold to Autobytel in February 2001 for $33 million. Since $28 million of that came in fast-falling stock, Gorun didn't do as well as he'd hoped. But he also feels fortunate to have cashed out at all. Had he believed the $200 million valuation was accurate, he may not have.
Of course, it's not just the dot-coms that have seen their valuations tumble in recent years. "I can't think of any industry where valuations are rising," says Scott Murphy, senior vice president at New Orleans-based Advantage Capital Partners. For most, the challenge has been to minimize the damage. Fields like finance and insurance are down just a hair, thanks largely to low interest rates, which have kept the cost of their raw material -- cash -- historically low. Business services, meanwhile, have been crushed, down about 50% from the peak. "In terms of transactions and value," says Brooks Dexter, senior managing director of USBX Advisory Services in Santa Monica, Calif., "it looks like 1995." This valuation erosion plays no geographic favorites -- multiples, usually higher on both coasts in good times and bad, have fallen uniformly.
But the downturn has hit smaller companies harder. In 2002, according to a report by Los Angeles-based investment bank Houlihan Lokey Howard & Zukin , the average price to EBITDA multiple of companies with greater than $1 billion in sales was 9.5; for companies of less than $100 million, it was 6.5. "As one of the grizzled bankers who trained me put it," says Justin Abelow, senior vice president at Houlihan Lokey, "'whales hold their breath longer than minnows." Even successful start-ups can be in the vexing position of outlasting their competitors and yet still find themselves worth less than they were a few years ago. "Small investors are astonished by the fact that their company has done well but still gone backward in valuation," says Murphy, of Advantage Capital. "That's a tricky place."
Is there any good news here? Well, yes. A close study of the numbers indicates that valuations seem to have bottomed out. The deal figures in 2003 have held up to 2002. More telling, look at the cash percentages in these acquisitions. According to a recent report by JPMorgan, which crunched numbers from Thomson Financial, the average acquisition in 1998 was financed 68% with stock. By 2000, it was 57%; in 2001, 45%; and last year, excluding one deal, the Pfizer-Pharmacia merger, that figure fell all the way to 24% -- the smallest margin in a generation. Cheap stock fueled the valuation run-up: As the cash portion has risen, prices have dropped. But with cash now constituting three-quarters of the typical deal, it's a good sign that we've hit a turning point.
Given this new landscape, taking stock of your company, as Michael Gorun did, can offer a window into potential opportunities for improving your valuation.
Over the 23 years Terry MacRae has owned San Francisco-based Hornblower Yachts, it's hardly been smooth sailing. He's gone through virtually every type of small-business transaction: subordinated debt offerings, equity-leveraged acquisitions, partner buyouts, division selloffs. But in the end, he's thrived. Hornblower, which handles charters and dinner cruises along the California coast and has an affiliate that manages casino boats in the Midwest and Bahamas, owns 25 boats and boasts revenue of $30 million, along with a healthy profit margin.
