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Insider Insights: Evaluating an Industrial Supply Business Acquisition
Breaking Down the P&L, Valuation, and Deal Structure
Matt Bodnar
August 01, 2024
Breaking Down the P&L, Valuation, and Deal Structure
Welcome back to Deal Mastery Insider, where we dive deep into the buying businesses. Today, we're unpacking an industrial supply business. Whether you're an acquisition entrepreneur, a seasoned investor, or a business owner eyeing your next big move, this deep-dive will equip you with the insights you need to make informed decisions.
The Balance Sheet: Unearthing Discrepancies
Before we dive into revenue, let's scrutinize the balance sheet. A glaring discrepancy leaps out: the company's reported inventory stands at $2 million, while the provided CIM (confidential information memorandum) lists it at just $820k. This gap is significant enough to warrant further investigation. Such variances can dramatically shift the borrowing base, affecting potential financing options. For now, we'll conservatively assume the $820k figure is accurate.
Revenue and P&L Analysis: Getting Real with the Numbers
When we crack open their P&L, a few red flags wave. For 2023, the business shows discretionary earnings of $487k. The figures for 2022 and 2021 stand at $450k and $360k, respectively. However, these numbers don't match the adjusted net income presented by the broker, raising questions about the ad backs—owner salary, benefits, depreciation, interest expense, and others. This inconsistency suggests either disorganization or potential issues that need addressing.
Valuation Matrix: What’s the Company Worth?
To establish a baseline, let's map out the valuation using Seller's Discretionary Earnings (SDE) across the past three years (2021-2023). We average these figures and estimate a reasonable SDE of $475k. Using industry-standard SDE multiples, we peg the business's value at approximately $1.1 million, with a potential range from $900k to $1.4 million.
Real Estate: Adding Value
The company's real estate adds another $1.9 million to its value, bringing the total business valuation to around $3 million. However, the broker's price stands at $4.4 million—a significant overvaluation based on our analysis.
Broker’s Valuation: Unpacking the Discrepancies
The broker likely reached their number by averaging an inflated SDE of $600k and applying an ambitious multiple of 3.5. Adding the real estate, they arrive at $4 million, still 10% shy of the listing price. This high SDE and multiple don't align with the business's actual performance and cost structure, based on my read of the PNL.
Expense Analysis: Finding Realistic Savings
To unpack that, let’s see how they are calculating SDE and look into the operating expenses. For 2023, the company had $6.2 million in revenue, with COGS at $3.6 million, leaving a gross margin of $2.5 million. To reach a $600k SDE, operating expenses must be $1.9 million. However, their actual expenses were around $2.27 million, leaving a profit of just $263k. Even with generous adjustments, reaching the broker's SDE figure seems implausible.
Deal Structure: Crafting a Win-Win Scenario
Assuming we accept the $475k SDE and a 2.5 multiple, the business's value remains at $1.1 million. Adding the real estate, we get a total value of $3 million. Here's a potential deal structure:
$1.9 million at close, primarily collateralized by real estate.
$700k seller note.
$500k earn-out, structured as $100k/year for five years with EBITDA targets.
This structure, leveraging a $1.9 million loan primarily backed by the real estate with a 20-year amortization, leaves about $183k of free cash flow. A solid, realistic framework compared to the broker's inflated expectations.
Conclusion: A Cautious Approach
While the industrial supply business is overvalued at $4.4 million, a realistic valuation and structured deal can make it a viable acquisition. Always dig deep into the P&L, question inconsistencies, and ensure the proposed earnings are achievable.
I hope this was helpful as you look at potential acquisition opportunities and as always, hit reply and let me know what you think!
See you on the next Deal Mastery Insider.
Best,
- Matt Bodnar, "The Deal Architect"
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