Determining FBO Multiples

Determining FBO multiples

A business valuation veteran looks at what FBOs need to consider

By Michael A. Hodges, President & CEO, Airport Business Solutions

June 2000

A business valuation veteran looks at what FBOs need to consider In this very active period of FBO sales and acquisitions, a common question bantered about within the industry is: "What kind of multiples are being paid?" Unfortunately, the answer is not as simple as the question may appear.

In the fixed base operator (FBO) industry, the comparative factor of choice in determining value is the "multiple of EBITDA." EBITDA is an acronym for "Earnings Before Interest, Taxes, Depreciation and Amortization." This generally reflects the cash flow of the business before the deduction of such debt and accounting issues as a mortgage and depreciation.

In other words, the starting point in negotiations typically begins with an all-cash value, disregarding all existing debts. Buyers are less concerned on the front end whether a business is highly leveraged or owned debt-free. (This typically comes into play later in the negotiations when the terms of the sale are discussed.) Their primary concern is whether the cash flow of the business will cover the financing structure that they propose to put in place.

In the case of an all-cash transaction without financing (few and far between, despite what you may have heard), the owner wants to ensure that the deal will provide a reasonable return on his/her equity.

The reason for providing this background information relates to the fact that often when someone quotes a "multiple," they are unaware of what figure it should actually be (or was) applied to. In the world of valuation, the "multiple" is simply the relationship between EBITDA and the selling price of a business. If a business sells for $6 million and the EBITDA at the time of sale was $1 million, then the multiple is 6.0. (The EBITDA utilized can be previous year-end, trailing 12 months, or even the previous quarter or quarters annualized.)

The derivation of a multiple is just simple, basic math. However, despite the rather straightforward definition of EBITDA, many factors are pertinent in determining the appropriate EBITDA that a seller should be focusing upon.

Many FBOs are closely held businesses, with the owner (or owners) taking advantage of the many benefits of business ownership (namely, the ability to pay yourself a salary in excess of the market rate for your job description and pass-through every expense imaginable). However, the mistake a seller often makes is a failure to "add back" these extraordinary expense items when determining the relevant EBITDA to be utilized by the buyer.

This is where the myth part comes in ...
By knowing the sales price and EBITDA of a transaction, anyone can derive a multiple. However, the multiple provides little information about the buyer's expectations in arriving at the ultimate purchase price. When someone buys a business, they are generally expecting one of two things:

1) The business will continue to perform at its current level over the next several years; or
2) The business will grow over the next several years.
(While some would say that a third alternative is the anticipation that business will decline, if someone is planning to purchase a business, you can bet they feel they can turn things around. That only happens to the other guy!)

As a result, the purchase price of a business has everything to do with the anticipation of future revenues, and little or nothing to do with past revenues. If a buyer thinks a business can grow at a rate of 10 percent, then he/she will pay more than if they anticipate that it will grow at only two or three percent. Consequently, the current or historic EBITDA is little more than a reference point.

Penalties for Success
Because of the focus on a business' future revenue potential, it is entirely possible that a highly successful business owner can fall prey to his/her own successes.