The only model you need
A multiple is the price of uncertainty.
Enterprise value is the market's confidence that future cash flows will arrive. Everything else is evidence for or against that proposition.
Once you hold that, the drivers stop being a checklist and start being obvious. Customer concentration reduces confidence. Owner dependence reduces confidence. Slow or unreliable reporting reduces confidence. Unknown liabilities destroy it. A multiple is not a measure of quality. It is the price of uncertainty.
The two companies
Same sector. Same $3.2m of EBITDA.
Neither description below mentions profit, because the profit is identical.
Company A
Worth $12.8m
- One customer at 38% of revenue.
- The founder holds the key relationships and still signs off on pricing.
- About 12% of revenue is contracted. The rest is won job by job.
- Management accounts arrive six weeks after month end, and get restated at year end.
Company B
Worth $24.0m
- No customer above 14%.
- A general manager runs it. The founder has not been in the day-to-day for two years.
- 62% of revenue sits under contracts with twelve-month terms and assignment clauses. Retention has averaged 96%.
- Accounts close in five days, are externally reviewed, and last year's forecast landed within 3%.
What that costs
One buyer, one day.
Buyers do not calculate a multiple by adding fractions of a turn. They form a single judgement about whether the earnings will still be there in three years, then decompose it afterwards to rationalise the decision. What follows illustrates the kinds of issues that shape that judgement, and roughly what each is worth. Not an industry tariff.
| Against a 5.5x sector base | Company A | Company B |
|---|---|---|
| Customer concentration | (0.50x) to (1.00x) | +0.10x to +0.40x |
| Owner dependence and management depth | (0.25x) to (0.75x) | +0.25x to +0.75x |
| Revenue quality and contract terms | (0.10x) to (0.40x) | +0.50x to +1.00x |
| Reporting quality and forecast reliability | +0.25x to +0.75x | |
| Multiple at the midpoints | 4.0x | 7.5x |
| EBITDA | $3,200,000 | $3,200,000 |
| Enterprise value | $12,800,000 | $24,000,000 |
Most of that width is negotiable, if you can evidence your way to the good end of it.
The number that makes it real
11.7 percentage points a year, on the same earnings.
Company A
25.0%
Company B
13.3%
Flip the multiple over and you get the earnings yield. It is not a true return, since it ignores tax, interest, capital expenditure and growth, but as a way of comparing two businesses measured identically it is the most useful number here.
Nobody demands 25% a year from an asset they are comfortable with. They demand it from one they think might break.
Where the model breaks
A buyer cannot price a range.
Everything above behaves gradually. Fix some concentration, move the multiple a bit. Some risks do not work that way at all.
Say Company B engages 40 of its installers as contractors, and on the current tests most of them look like employees. Correcting it lifts the ongoing cost base by around $384,000 a year, which means the $3.2m of EBITDA was never $3.2m. Then there is the history: unpaid super, back-pay, interest and penalties, running as far back as the arrangements do. Depending on how many fail the test, somewhere between $1.5m and $4m.
The range is the problem. A buyer cannot price a range, so they take an indemnity, hold money in escrow, chip the price at the top of the range, or quietly go and look at something else.
Whether those installers are employees turns on the specific facts and is a question for someone qualified to answer. The commercial point sits underneath the legal one: uncertainty gets priced at the bad end while it stays open.
The arithmetic that should stop you
You do not have to become Company B.
For Company A to reach $24m through trading alone, at its current 4.0x, it needs EBITDA of $6.0m. Another $2.8m of earnings, an 87.5% improvement, to arrive where Company B already was.
On $3.2m of EBITDA, one turn of multiple is $3.2m and a quarter turn is $800,000. And A does not have to become B. Close half the gap and value goes from $12.8m to $18.4m, which is $5.6m, and would have taken a 44% lift in earnings the other way.
None of that work improves this year's EBITDA by a dollar. It takes two or three years, and it has to be evidenced before anyone comes looking, which is why it keeps not getting done.
EBITDA tells you how much money the business made. Enterprise value tells you how confident someone else is that it will keep making it. The difference between those two numbers is where most owners' wealth is created, or quietly destroyed.
Which company is yours?
A Commercial Assessment tells you where you sit on each of these drivers, what the gap is worth, and what to evidence first. Two to four weeks, fixed fee.
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