Lower Middle Market M&A for the CPA, CFO, Controller

Oklahoma Society of CPAs

Tulsa Chapter

May 2014

David L. Perkins, Jr.Acquisition Advisors

Lower Middle Market M&A for the

CPA, CFO, Controller

Publicly Announced Transactions

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Private Equity Transactions

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P/E Multiples Paid

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Not Just Anybody

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The average annual growth rate of PE-purchased companies is 15%

The average EBITDA margin is 20%

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• 49% of annual revenue.

• 2.4 times seller’s discretionary cash flow (SDCF).

• 70% include seller financing.

Transaction Patters by Toby Tatum

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For what do small businesses sell?

• Most frequent % of price financed by seller is 50%.

• When sellers finance, 70% of the notes are amortized over five years or less.

• Payback period for buyer’s down payment has a mean of 1.1 years.

Transaction Patters by Toby Tatum (cont’d)

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PV = E1 / (k-g)

Where:

PV = Present Value

E1 = Expected Income in Year One

k = Discount Rate

g = Annual Growth Rate of Expected Income

And: k = Rf + R

k - g = Capitalization Rate

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Example 1: Buyer of ABC Company projects $100,000 of pre-tax income in year 1, assigns a 25% required rate of return based on the overall risk profile of ABC, and anticipates zero growth. As such, Buyer values ABC as:

PV = $100,000 / (.25 - .00)

= $100,000 / .25

= $400,000

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PV = E1 / (k-g)

Example 2: Buyer of XYZ Company projects $100,000 of pre-tax income in year 1, assigns a 25% required rate of return based on the overall risk profile of XYZ and anticipates 15% annual growth

PV = $100,000 / (.25 - .15)

= $100,000 / .10

= $1,000,000

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PV = E1 / (k-g)

Build value through your income statement,

not your balance sheet.

Wisdom

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Required Rate of Return

1 - RETURNS ARE RETURNS TO TOTAL CAPITALIZATION (DEBT AND EQUITY).2 - MICRO-CAP. STOCKS IS DEFINED AS THE PORTFOLIO OF STOCKS COMPRISED OF THE 9TH AND 10TH DECILES OF THE NEW YORK STOCK EXCHANGE. ACCORDING TO THE CENTER FOR RESEARCH IN SECURITY PRICES, UNIVERSITY OF CHICAGO, THE AVERAGE CAPITALIZATION OF MICRO-CAP COMPANIES FROM 1926 TO 2000 WAS $68 MILLION. SOURCE: IBBOTSONS Acquisition Advisors

Average Annual Return

Inflation 3.0%

U.S. Treasury Bills (30 days) 3.7%

U.S. Treasury Bonds (5 years) 5.3%

U.S. Treasury Bonds (20 years) 5.6%

L.T. Corporate Bonds (20 years) 6.3%

Large Cap. Stocks 9.3%

Micro-Cap. Stocks 15.5%

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Goodwill

Such value, when it exists, is separate and distinct from the tangible assets of the business enterprise.

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The intangible asset that may arise or exist in a business as a result of name, reputation, competency, location, product, service, customer lists, etc.

A term accountants use for purchase price paid for a business in excess of the book value of the business’ assets.

“Blue Sky”

The slang term for goodwill.

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Paid off by seller with after-tax proceeds.

How Does i-Bearing Debt Impact Value?

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How important is the seller?

Transferability of the Business

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BUYER TYPES

Individual

Industry

Private Equity Groups (PEG’s)

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Mr. Cooper earns $300K per year after paying $100K salary to the owner. Business sells for

$1.2 million. The owner, Larry, leaves the business, loses his salary, and puts his $750K in a mix of stocks, bonds and cash and earns an

average annual return of 7%.

Larry now earns $52,500.Larry now earns $52,500.

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Cooper Service Company

If your business is profitable, you’ll be financially better off keeping your business

Owners of high value businesses sell when they value their freedom more than the money

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If your business is perpetually under-performing, you may be better off selling (for whatever you can get)

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Value is not absolute (it’s elastic)

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Stupid buyers (with money) are hard to find.

It’s hard to judge a buyer by his babble.

Wisdom

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The Absolute Key to Maximizing Sale Value, Minimizing Time, Maintaining Confidentiality

• Multiple high quality buyers “worked” simultaneously, with urgency

• Auction characteristics (going, going, gone!)

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How Do You Know if an Offer is “Good”?

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How Sale Price is Maximized

Sale Price =

Enterprise Value + Packaging + Process + Dealmaker Skill

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A value killer for many business sellers

Confidentiality

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An appraisal before you sell?

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Questions?

David L Perkins, Jr.Acquisition Advisors, LLC www.AcquisitionAdvisors.com918-748-7995

Additional Topics

• 100% cash at closing?

• When is the right time to sell a business?

• Quality financial statements

• Presenting financials in most favorable light

• C-Corps

• How to move from CFO to owner? MBO?

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