December 11, 2017
GF Data has recorded average valuations on private middle-market transaction surging into record territory over the course of this year, yet we continue to hear from subscribers and other deal professionals that these unprecedented multiples seem low in comparison to their own market experience.
It seems like a good time to address the true state of multiples in this extended and feverish seller’s market.
Our data comes to us from a cohort of about 200 private equity firms and other deal sponsors reporting on transactions they complete in the $10 million – $250 million Total Enterprise Value (TEV) range. The data set goes back to 2003.
Across the entire sample, valuations averaged 6.2x Trailing Twelve Months (TTM) Adjusted EBITDA in the ten years spanning 2003-2012. As the post-financial meltdown recovery took hold earlier in this decade, the average mark rose to 6.5x in 2012, 6.7x in 2014 and 2015, and then 6.8x in 2016.
For the year to date, multiples have averaged 7.1x across the universe. Notwithstanding my own comment several months ago that valuations appeared to have plateaued at this lofty level, averages have actually edged upward in the middle months of this year. Valuations in Q2 and Q3 overall averaged 7.4x. In the $100 – $250 million valuation bracket, the average was 9.2x.
This perceptual issue is further complicated by the fact that there are nearly always business data sources reporting multiples that may conform more to cocktail party palaver than ours do.
By any measure, this is thin-air territory. And yet, would-be buyers report – particularly in the $100 million-plus bracket – that these multiples seem light. “Your average is nine times?” they say. “Tell us who’s selling the businesses going off at seven, because we’re bidding ten and eleven these days – and getting blown out!”
So, what’s going on?
As a general observation, there is always somewhat of a melt-off from a general anecdotal sense of the market to actual completed deal data. We’ve been doing this for eleven years, and we’ve seen it in down markets as well as up. Our best conclusion is that industry scuttlebutt internalizes a lot of data points, not just transaction values at closing. Early chatter, pricing at indication of interest and letter of intent stages, debt reads and post- transaction smoke blowing all get cranked in as well.
There does, however, appear to be something more pronounced than usual in the current market. In an environment where it sometimes seems as if every business is trading at a high single-digit multiple or better, we took a look at the deals that actually are.
Of the 162 transactions completed by firms in the GF Data universe in the first nine months of 2017, valuation multiples of nine times or better were recorded on 30. These are their salient characteristics:
Strong financial performance: As our regular readers know, we measure and report on a spread between above average financial performances and other businesses.
The above-average benchmark is TTM EBITDA margins and revenue growth both in excess of 10 percent, or one in excess of 12 percent and the other greater than eight percent. Over the life of our sample, 54 percent of reported transactions meet this standard. For the 30 highly valued businesses in the year to date, median EBITDA margin was 22 percent. Median revenue growth was 14.4 percent.
Management solution: A high percentage of deals closed with financial sponsors generally involve a management solution – either selling management is continuing
for more than a transitional period post-close, or the buyer already has management in place. The percentage is 84 percent overall, but 90 percent among the highly valued.
Size: The premium traditionally applied to larger businesses has been magnified and calcified by the sustained availability of cash-flow based debt in the current market. At
$10 million – $50 million EBITDA, highly valued businesses are 10 percent of the completed deal volume. At $50 million – $100 million, its 18 percent. At $100 – $250 million, 54 percent of the companies are trading at 9x or more.
Industry niche: Few would be surprised to know that broader industry categories positioned for growth account for outsized shares of the premium valuations. For example, 32 percent of all hhealthcare service deals involved highly valued businesses, compared to the overall average of 18.5 percent. In other business categories, the market is being more selective. Only 13 percent of all manufacturing deals were in the highly valued group. Among branded consumer products manufacturers, though, the incidence was 23 percent.
Type of ownership: Businesses in institutional hands prior to sale tend to be valued at modest premiums to those owned by individuals or families. This tendency is even
more pronounced among companies that trade at top valuations. (There’s some covariance here – PE funds own a greater share of $200 million companies than they do of $20 million companies.) At any rate, percentage of highly valued businesses among deals with a given type of ownership are as follows: private equity/financial 35 percent; corporate 21 percent; and individual/family 14 percent.
To some extent, there is a perception issue here. The more a firm’s business is concentrated in these vectors prone to higher valuations, the more susceptible it is to the view that these conditions characterize the market as a whole.
This perceptual issue is further complicated by the fact that there are nearly always business data sources reporting multiples that may conform more to cocktail party palaver than ours do. For example, one data house pegs the aggregate multiple for the first months of this year at 10.5x, compared to our 7.1x. The higher number includes deals completed by strategic as well as financial acquirers, but we still think it overstates prevailing conditions.
What causes others to drift into persistently higher numbers? We only know what we do. GF Data gets a lot of ballast from a stable pool of data contributors that changes gradually over time. There’s no self-selection bias.
I suspect other data services may be vulnerable to a greater tendency on the part of deal professionals to report highly valued deals than to report more lightly valued ones. I say this not because I know their precise methodologies, but because I know deal professionals.
We’ll stick with what we do, hold to the view that our snapshot of market conditions is close to right, and continue to watch for signs that this protracted seller’s market is about to turn.