Selling a business is often a once in a lifetime event. Consequently many business sellers, understandably, don't have clear expectations of market pricing, deal structures and even the process that they are embarking on. That is not a reflection on them but simply that there is a lot of conflicting and frequently incorrect information bandied about.
The Recruitment industry is not well understood by those outside it. For what is now a sizeable sector of the Australian economy it has a lower profile in the public arena than it deserves. Outside of industry specific publications, like Recruitment Extra, there is little review of merger and acquisition activity in Recruitment.
The lack of general coverage and awareness is added to by the fact that many professionals in external advisory roles often have few or even just one client in Recruitment. Here I am mostly referring to accountants, lawyers, corporate advisory firms, business brokers and others who deal with a diverse collection of clients from many different industries. Gaining an effective understanding of the benchmarks, market drivers, structural issues, geographies and performance criteria for different types of Recruitment companies requires industry specific exposure over a lengthy timeframe.
So a recruitment business owner can receive uninformed and possibly misleading advice about what to expect when they try to sell. In our experience, it is of course not that any external advisors intentionally mislead, they just have few comparable benchmarks to use. They don't have many Recruitment clients and if they do have more than one they may be very different in size, type and market focus.
HHMC's core activity revolves around consulting in M&A in the Recruitment sector and therefore we are in discussions on this topic on a weekly basis. Over the years we have heard of completely erroneous advice on pricing given to sellers by external advisors. This includes an accountant who advised a small recruitment business owner that they should expect a multiple on EBIT of about 12 times! Or another who advised a multiple on revenue (not EBIT) of 6 times and there are many other similar grossly inaccurate statements. We can't blame people for wanting to believe what they hear; they are appealing numbers if you are selling. Unfortunately, it doesn't happen; not in Recruitment, not in Australia and certainly not at the SME end of the market (which covers most of the industry).
Rumours are another source of misinformation. It is probably not surprising that some people like to "talk up" the amount they received in their sale and earn-out. Recruitment company owners are competitive people after all! What happens as a result though is that a few distortions are passed on about what values are really paid and the reasons behind it. It is important not to believe all that you hear and that is something that will probably never change.
An area that creates misunderstanding on market sale prices is terminology. Negotiations are often based on a multiple of some aspect of earnings depending on the circumstances and the flow of the negotiation. This is usually EBIT (earnings before interest and tax); EBITDA (earnings before interest tax, depreciation and amortisation) NPAT (net profit after tax) or it may be on Gross Profit or even Revenue in some circumstances. In all cases the Working Capital in the business at the time of selling is either withdrawn by the owners, usually as a dividend, or acquired as part of the transaction. If it is acquired as part of the transaction (buying the Balance Sheet) then this will make the multiplier sound higher but the seller doesn't actually get any more for it. An example might explain it better:
- Alpha & Associates has an EBIT of $1Million and a Working Capital balance of $1M at the time of sale (Completion). They receive a multiple of 3 times EBIT for the business; therefore the Price is $3M. In addition they have withdrawn their Working Capital balance and declared a dividend of $1Million. The Total is $4Million.
- Beta Recruitment also has an EBIT of $1Million and $1Million in Working Capital at sale. However, the buyer is acquiring their Working Capital as part of a total share purchase of the company including Balance Sheet items. They receive an offer of $4Million to buy the company including the Working Capital. The Total is $4Million. However, this is often quoted as a multiple of 4 times rather than 3.
Both owners ultimately walk away with $4 Million, though one may say they received 4 times EBIT and the other 3 times. This is a simplified example but the incidence of confusion over terminology is quite common. It is important to know what the detail is when discussing it.
For any business owner buying or selling a business having access to accurate, contemporary advice from people experienced in the same industry is vital. Even if that advice isn't always what you want to hear.
Originally Published in Recruitment Extra June 2012