The Subjectivity of Valuation in an M&A Transaction
- Why valuation is highly dependent on subjective factors
- How founders can take advantage of the subjectivity of valuation to improve their outcome in an M&A transaction
The general perception many founders have about valuation is that it’s an objective truth of what a company is worth. This perception is flawed.
While investors and buyers do try to objectively arrive at a valuation by analyzing key business metrics, valuation is largely a subjective determination of value that can vary largely from one buyer to the next.
Variation in valuation comes about because 1) as an asset, a business has no 1:1 comparison, and 2) the various buyers evaluating a business will have access to different internal information, expertise, and opportunities.
In addition, while buyers/investors might have similar benchmarks of comparison for core business metrics, interestingly they don’t value them the same. And though these metrics might establish a baseline for valuation, many intangible factors will have a bigger influence on the final outcome.
A perfect example of the subjectivity of valuations is visible in the transactions we’ve run for our clients, where the highest valuation can be 30-200% higher than the lowest.
Because valuation is subjective, founders looking to sell their business or raise capital can tip the scales of subjectivity in their favor to optimize valuation as they:
- Build a broad and varied list of qualified buyers
- Run a competitive process
- Position metrics in the context of the business case
- Drive upside by leveraging the intangibles of the business
Build a broad and varied list of qualified buyers
The more qualified buyers you include in a transaction process, the more likely you are to find the buyer who subjectively values your company higher than the competition. This doesn’t mean you shoot the deal out to hundreds of buyers, but that you keep your options open in terms of buyer background and transaction structure so that you’re more likely to find the right buyer.
When building a buyer list, you should broaden your horizons beyond the buyers reaching out to you, as these outbounders may not be fully interested or qualified to transact. In many cases, though not always, the outbounders are value shoppers trying to preempt a process and buy your company at a discount.
Run a competitive process
When many buyers are making offers on different terms, you can leverage the strengths of one buyer when negotiating with other buyers. In a competitive process, buyers have to put their best foot forward in terms of valuation and terms in order to win the bid.
By itself, having more buyers in the transaction process will make it more competitive. But you can increase competition even more by how you structure the process and interact with the various parties.
Position metrics in the context of the business case
Out of context, the barebones metrics of your business might send the wrong message to buyers. As such, communicating the context of your metrics can help buyers make a more fair interpretation of your KPIs.
While buyers/investors will place significant stock in the barebones metrics, much of the excitement around a transaction comes from the story you can tell about the future of your company. Positioned in the right light, many weaknesses become opportunities where the buyer/investor can optimize performance and realize a return.
Drive upside by leveraging the intangibles of the business
Not every benefit of a transaction between parties is easily quantifiable but still pertinent to matters of valuation. Emphasizing mutually beneficial albeit intangible synergies can go a long way to increasing interest and commitment to closing a deal at a premium valuation.
Hire an Expert Who Understands the Subjectivity of Valuation
By nature, optimizing a subjective valuation is a subjective art, and the more experience you have on your side of the table, the more likely you are to add another turn or two to your valuation. An experienced investment banker can help you structure a process and engage with buyers in a way that optimizes valuation in your favor.