Is EBITDA the right metric when valuing a plant and equipment hire business?
Traditional valuation methods for businesses typically use a multiplier on profitability, of which the most commonly used is EBITDA. This acronym specifically relates to Earnings Before Interest, Tax, Depreciation and Amortisation. As a profit figure it is therefore independent of these features – independent of tax, accounting policies that relate to the balance sheet and of how the business is funded. This figure therefore represents the clearest available proxy for ‘operating cash-flow’ which various parties can consider when valuing a business.
In a plant or equipment hire business with a strong, often externally financed fixed asset base, depreciation and interest usually represent significant cost items. As such, adding these items back to profit before tax will often result in a large EBITDA figure, one that could then be used in a subsequent valuation exercise. No business owner looking to maximise value would shy away from this calculation! But is the biggest EBITDA number the metric that investors will use when acquiring a plant or equipment hire business?
When EBITDA multiple based valuations don’t work in isolation…
From our experience, EBITDA as a proxy for operating cash flow has not been the focus of investors when it comes to valuation, particularly when related to “capital expenditure (CAPEX) heavy” businesses such as plant and equipment companies. When assessing opportunities in these sectors, the traditional questions that apply to most companies, e.g. “what are the sales & profit?”, “what is the customer split?”, “what is the long term growth trend?, and “what is the market position & geographical coverage?”, are often complemented by industry-specific questions which flow directly into the valuation metric.
To name a few examples, buyers have asked about the quality & age of the operational fixed asset base, its monthly utilisation, or required investments into replacement or repairs on an ongoing basis to maintain and grow the business over a period of time, amongst others.
How can you go beyond EBITDA in presenting your plant and equipment hire business for sale?
Since using EBITDA as a valuation metric does not fully cover all particularities of plant and equipment hire businesses, an owner can consider presenting other performance indicators to potential buyers when looking to raise their interest. We have found that re-focusing investors’ attention on the free cash flow generated by the business, optimising the CAPEX plan and showing strong evidence of good plant utilisation result in productive discussions and can support a robust company valuation.