One of the more common conversations we have with recruitment agency shareholders is around what their business is worth. In many cases, the words valuation and transaction are used interchangeably.
We've come to the view that understanding the difference between the two is important because they are related, but they are not the same thing.
A professionally prepared valuation is an opinion formed at a point in time. A transaction is the outcome of a negotiated agreement between two parties. While that sounds like a simple distinction, it can have a significant impact on what it means for the owner.
Many shareholders hear a valuation number and naturally assume that this is what they will eventually receive for their business. That number is only one part of a much broader discussion.
At its simplest, a valuation is an estimate. It is based on proven trading history, assumptions about future profits, the risks associated with those profits and the prevailing market environment.
Valuations are useful. They provide a reference point and help owners think about progress, wealth creation and help drive strategic decisions. They allow internal shareholding changes to be arranged. They highlight strengths and risks in the business. But they are not promises. They are not cash in the bank. And they are not the outcome of a negotiated transaction process.
Two experienced valuers can look at the same business and arrive at slightly different conclusions. Both opinions may be reasonable because valuation is not an exact science. It is an assessment based on data, assumptions and judgement.
For that reason, we encourage shareholders to think of a valuation as a structured, experienced opinion.
A transaction is different because another party enters the discussion.
That other party has their own objectives, their own view of risk and their own ideas about how the future could and should unfold. Once that happens, the conversation becomes much broader than simply agreeing on a number.
Issues such as:
all begin to influence the eventual outcome.
This means that two businesses with identical valuations may result in very different transactions.
Neither outcome is necessarily right or wrong. They are simply different agreements between buyers and sellers.
Most transactions eventually come back to one question of Who carries the risk?
The answer to that question influences almost everything else.
These questions often prove to be more important than relatively small differences in valuation multiples.
Owners can become very focused on the headline number, but in practice the structure of the transaction often (usually!) determines the real outcome.
We always encouraged owners to look beyond the valuation itself.
There are several misunderstandings that appear regularly.
One is the belief that a valuation tells an owner what their business will sell for. A valuation provides an opinion; a transaction requires another party to agree.
Another is the belief that a higher valuation automatically means more money in the owner's pocket. That is not necessarily true. The structure of the transaction, the agreement on working capital, and the timing of payments may prove to be far more important than the headline number.
Similarly, owners often assume that a higher multiple means a better deal. This is not always the case. A slightly lower multiple combined with a better future-based structure can produce a superior outcome.
You could say that no business is worth what the owner thinks it is worth, or even what a valuation report says it is worth. A transaction requires another party to commit both capital and confidence.
Valuations are important. They provide a reference point, an understanding of strengths and risks, and a common language for discussion.
But transactions are where theory meets reality.
We have become increasingly convinced that owners spend too much time discussing multiples and not enough time understanding the issues that ultimately determine outcomes.
A valuation is an opinion; a transaction is an agreement. And while the two are closely connected, they are not the same thing.
HHMC Global operates within the staffing and recruitment industry on equity transactions, market valuations and business growth advisory. Contact us to discuss further.