Crossing the Valuation Gap on Private Equity Transactions

Pepperdine University’s recently released Private Capital Markets Project (“PCMP”) reveals some interesting statistics derived from their survey of the current marketplace for privately-held business sales.  One of the key topics is how a failure to come to terms on valuation conclusions often prevents deals from closing.  For instance, investment bankers surveyed report that a valuation gap was the number one reason that their deals did not close.  Over 60% had a valuation gap greater than 20%.  It is precisely this reason that business valuation requires thoughtful analysis and expert advice.  However, a surprising proportion of angel investors surveyed (41%) simply relied on “gut feel”, which is not likely to be an area of common ground.

The failure by market participants to come together regarding valuation standards is an ongoing challenge.  The Uniform Standards of Professional Appraisal Practice (“USPAP”) provide the most highly regarded quality control guidance for the conduct of appraisals. USPAP does not require specific methods to be used and it is not uncommon for different approaches to indicate different results.  Instead, USPAP requires that appraisers be familiar with and correctly utilize those methods acceptable within the industry and to the intended users of the appraisal.  According to the PCMP, the most popular methods of valuation generally utilized across survey participants were discounted future earnings and guideline company transaction approaches.  When using multiples, the most popular applications were EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) and revenue multiples.  These are all valid approaches to valuation, but require expert analysis of how the different results should be weighted given the facts and circumstances of the particular property being valued, the forecasts available and the similarities with the available comparable transactions. This related article contains a more complete discussion of the benefits of USPAP for your business valuation/appraisal work.

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