If you are an owner/operator of a lumber and building material (LBM) distribution company, chances are, eventually, you will be looking to sell your business. When you are ready to sell, how much will your business be worth to a buyer?
Let’s start by looking at the industry, which is cyclical. As a nation, we last peaked at 2.07 million housing starts in 2005, then fell to only 550,000 starts in 2009, or a drop of about 73%. 2013 will come in at about 930,000 starts. Normal annual starts are forecast to be in the 1.5 million to 1.8 million range, so there should still be a long way to run on the upside.
How have the LBM dealers performed throughout the last cycle? At the peak, the top performers had Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) of 10+% of sales, good performers 6% to 8%, and the laggards were under 5%. When the cycle turned downward, it was not uncommon for even the normally good to top performers to lose 5% to 10+% EBITDA to Sales. At this point in the cycle recovery, the surviving LBM dealers should be positive EBITDA, back to 4% to 5%, some even better.
Prior to the downturn, the LBM businesses sold at a multiple of EBITDA. Why is EBITDA important as compared to Operating Income or Net Income in determining valuation? EBITDA is before Interest Expense, which nullifies the difference in the capital structures of the businesses between equity and interest bearing debt. EBITDA is also before income Taxes, which eliminates differences from C Corporations, S Corporations or LLC’s.
Additionally, EBITDA is before depreciation and amortization expense, so not skewed by the impact of different write-off methods of capital and intangible assets. An EBITDA multiple valuation is the standard because it can be compared across companies for benchmarking on a more equal basis than other valuation methods.
At the peak of the market, LBM businesses sold at an EBITDA multiple range of 4.5 to 6.0 for the enterprise value of the business, which is the equity value plus the interest bearing debt obligation. Let’s assume a business has annual EBITDA of $1 million, use an average EBITDA multiple of 5.0, and the Enterprise Value would therefore be $5 million. If there was $2 million of interest bearing debt, the equity value would be $3 million.
At the trough of the last cycle, there generally wasn’t positive EBITDA, so a valuation based on a multiple of EBITDA didn’t really exist. Those businesses that sold during that time were not sold on the basis of an earnings stream, but rather at tangible book value or slightly less, with even steeper discounts for significantly distressed businesses.
The recovery has returned earnings to the point where the better players can now garner a better selling price using a multiple of EBITDA rather than selling at tangible book value. The valuation multiples going forward will likely end up being in the range of where they were pre-downturn.
As the old saying goes, “the devil is in the details.” Consult an experienced advisor on the specifics of selling (or buying) a business.
William Brakken and George FinkenStaedt are partners at M&A Advisors, a mergers & acquisitions advisory firm. Contact them at: firstname.lastname@example.org, 425.829.7526, and email@example.com, 425.985.6005.