Manufacturing drives productivity growth in the U.S. economy, and manufacturing companies with fewer than 100 employees make up more than 94 percent of all U.S. manufacturers.
The U.S. manufacturing sector is so huge that if it were its own country, it would rank as the 10th-largest world economy!
Given that our economy relies heavily on manufacturing companies and the recent industry focus on supply chain technology investment, I want to visit some of the primary factors that valuation analysts consider when analyzing a manufacturing company, as well as some of the factors that may allow a company to transact at a premium, or conversely, may detract from the purchase price.
In general, the primary factors to consider when valuing a manufacturing company are:
- Sales and profitability trends
- Years in operation
- Condition and age of equipment and its value
- Technology (and potential for obsolescence)
- Competition
- Industry trends
- Number of products and services offered
- Capacity limitations and levels that would trigger the need for expansion
- Maintenance capital expenditures
- On-hand inventory and work-in-progress
- Backlog
- Raw materials
- Lease or own real estate
Items indicating a manufacturing company is lower risk and may command a premium value include:
- Exclusive products and patents
- ISO 2000 procedures in place
- Sustained profitability above its peers
- Ongoing and transferable customer or distributor relationships
Items indicating a manufacturing company is higher risk and may receive a discounted value include:
- Customer/supplier concentration
- Industry and geographic concentration
- Reliance on owner or key management personnel
- Job shop or contract manufacturer
The general rules of thumb for company value in the manufacturing industry are as follows. These are generally representative of the value of the company’s inventory, fixed assets and goodwill/intangible value.
- 4x – 5x earnings before interest and taxes (EBIT)
- 3x – 5x earnings before interest, taxes, depreciation, and amortization (EBITDA); however, for EBITDAs in excess of $4 million you might see a multiple of 4.5x – 5x, and for EBITDA above $5 million you might see a multiple of 6x or more
- 2x – 3x owner benefit/cash flow plus the current market value of furniture, fixtures and equipment, and inventory at cost
- 40 percent to 60 percent of sales
The largest barriers to entry in this industry can be the equipment, good employees and established customer base, and a well-run manufacturing operation will have a good understanding of these issues. Even though there are certain triggering events that would necessitate the use of a valuation, such as succession planning, bank financing or an acquisition, it is important for manufacturing company owners or management to understand the value of the business and how the business decisions made can impact that value, either positively or negatively.
