So, you’ve received an offer from a potential Buyer to sell your business. The initial offer may well be structured with reference to an Enterprise Value (“EV”) – also known as the cash-free, debt-free basis. This is the underlying, theoretical value of your business before any adjustment to reflect your company’s balance sheet and capital structure.
Multiplying your ownership stake by the EV often won’t give you a reliable indication of the cash you’ll personally receive. It’s another figure, the Equity Value, which determines the cash proceeds you will receive as an equity owner. You may have noticed that Equity Value, unhelpfully, can also abbreviate to “EV”, but the shortened form usually means Enterprise Value.
Let’s use a simple analogy to demonstrate the difference between EV and Equity Value – the sale of a house. EV represents the value a successful bidder offers for your home i.e., the “market value”. However, when you sell your home, you may have an outstanding debt to settle in the form of a mortgage. This will affect the proceeds you receive – on sale you receive the “market value” less the “outstanding debt”. In practice, the Buyer will typically pay over the full market value to the lawyers, who will then arrange for the repayment of that outstanding debt, before remitting the remaining funds to the Sellers.
Equivalent principles apply to the sale of a company, but, in addition to an adjustment for debt, there are other subjective, and highly negotiated adjustments. Adjustments including normalised working capital, surplus cash, non-core assets / liabilities, and off-balance sheet items are frequently factored in before arriving at Equity Value.
When considering an offer, it’s vitally important to understand the likely impact of these adjustments early, as significant value is frequently gained or lost here. There are also “hidden” asset-like items that might confer future value to the Buyer. These need to be discussed early in the process if you are to stand a reasonable chance of gaining any incremental value as a Seller.
As a Seller, understanding which adjustments are likely to have a material impact on price allows you to negotiate a better deal at the point of maximum leverage – before entering into ‘exclusivity’. This is the period during which the potential Buyer has exclusive rights to negotiate a deal. Staying silent almost never leads to a better outcome. Buyers will frequently use the argument, “My price included the assumption that I would benefit from [x]”.
As a Buyer, understanding the balances that are likely to have a material impact on the EV to Equity bridge early allows you to factor them into your internal approvals. This may also allow you to negotiate the optimal, “Buyer-friendly” treatment, especially if the Sellers are less well advised.
Regardless of whether you are a Buyer or Seller, this technical area requires expert advice and analysis early in the process; certainly before entering into exclusivity.
Keen to discuss further? Talk to one of our experts.