How do you grab an investor’s attention? Sport a good looking company valuation. But, this is easier said than done. A company valuation is a complicated thing with a matrix of key figures. Find out here which of these figures are the most enticing for potential investors.
- Expectations and decisive factors
- Company value in key figures: Facts and misconceptions
- Soft factors in business valuation: What else counts?
- Transparency is best practice
- The influence of industry and business models
- Conclusion: Company valuation is complicated
- Want to know more?
If you want to grow as a company, you need money. But, equity capital is often not enough. Sooner or later you need to find investors to realise your ambition. Ideally, this plays out with the company receiving an injection of funds to expand its production capacity and reach new markets making it more profitable. And, on the other side, the investors get a decent return on their investment. Any investment, however, needs collateral. This is traditionally higher for medium-sized companies than new businesses trying to establish themselves in the market. But, the status of a company is only revealed by a company valuation.
The valuation of a company involves a large number of key figures that have differing weightings. To calculate the company value as realistically as possible, several key figures must always be used.
These figures fall under ‘hard’ and ‘soft’ factors. The hard factors are business management ratios that come directly from the company’s books. Soft factors make up the qualitative and partly subjective part of the final evaluation. These are the strategies and internal processes that are not easily quantifiable in monetary terms.
Whether it is a question of finding an investor, selling a company or looking for a successor: a company valuation is an important step in determining the sale or investment price.
But, it’s not just the revenue numbers that count. Focusing on these alone can result in drastic misjudgements. Different investors pay attention to different things as part of their due diligence. It’s not a one-size-fits-all situation – the type of company also plays a role in what factors are prioritised.
A key figure is the cash flow, ie the amount of actual cash generated over a year. The calculation of the future return on capital is what the investor wants to know. The opportunity is only interesting if the ROI is greater than other offers.
Earnings before interest and taxes (EBIT) can be another important enterprise value metric. For investors, this is an interesting indicator of whether the company is profitable before interest and taxes. If you also exclude depreciation and amortisation, ie calculate earnings before interest, taxes, depreciation and amortisation (EBITDA), you get a clearer picture of the operating cash flow. This value is often particularly interesting for buyers as well as investors.
Depending on the type of company, the last two figures may or may not include the managing director’s salary. It is included in the GmbH form of enterprise, but not in almost all other common SME legal forms, such as the GmbH & Co.KG, the OHG, KG, GbR and the sole proprietorship. The costs for the management can therefore be reported separately in the business valuation under certain circumstances.
In addition to past, future and current financial ratios, the number of fixed assets and equity, as well as the market outlook and competitive situation, also play an important role in business valuation. These are known as soft factors. They are characterised by the fact that they’re not easily quantifiable. However, this makes them no less important.
The majority of SMEs are owner-managed. This fact has its advantages and disadvantages. In many cases, the structures and the corporate philosophy are built around the owner. This is a riskier prospect for potential investors because if the owner leaves the company with no adequate successor, the company may falter and jeopardise the investment.
SMEs are well-advised to reduce their dependence on a sole person. This can be done, for example, through a second management level or a competent deputy. It is also advisable not to leave all decisions to one person, but to delegate responsibilities to several people.
Anyone who invests wants to know where their money is going and what the prospects are for generating returns. Those who are looking for investors or buyers should therefore not shy away from making their inner workings visible. Even if a company has great-looking figures and an outstanding position in the market, a poor organisational structure makes it more susceptible to collapse.
A list of responsibilities, processes and decision-making powers of the departments demonstrates transparency and shows that the company is well managed. Although this does not directly increase the monetary value of the company, it does create trust.
In this context, the documentation and review of the corporate strategy are also important. For one, it is important that the company can weather market forces and, ideally, grow. Bad planning is more easily and quickly recognised and countermeasures can be taken in good time. Consequently, a future-oriented corporate strategy can significantly increase the value of the company.
The soft factors that create trust and enhance the value of a company also include:
- Qualified employees
- Satisfied customers
- A product portfolio in line with the market
- Meaningful reporting and auditing of accounts
As no two companies are alike, business valuations are inherently complex involving a wide range of datasets. Much of what gets looked at depends on a company’s industry – values that are important for a production company are less important for an online business.
While for service companies, for example, turnover (because this is often identical to gross profit), profit margin (the cost of goods sold) and the dependency level on the owner are the most important factors, the situation is quite different for e-commerce businesses.
For online businesses, potential financiers or buyers will look more at the gross profit and less at the turnover figures. Values such as visitor numbers, conversion rate (the ratio of site visitors to transactions made), as well as the costs for and success of online marketing measures, will be the focus of the company evaluation.
And in the case of production companies, the unique selling proposition of the brand is an important indicator in addition to product margins. This is especially true if the company operates in a highly competitive environment.
Determining the value of a company with key figures is a very specific calculation task. After all, it is not only the pure figures that determine the extent to which one’s own company can be interesting for potential investors. Depending on the industry, the market environment, the form of the company and the internal processes, vastly different figures are important to them. In the end, a multitude of values results in an overall picture, which, however, is only partly decisive. In its report “Mergers & Acquisitions in SMEs”, the consultancy Deloitte states that emotional factors, the so-called gut feeling, are ultimately crucial in whether the investor will make a deal. However, a promising corporate strategy, clean figures, stable turnover and a high equity ratio are factors that can positively influence the investor.
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