A question I hear on a daily basis is “How much is my company worth?” Though it sounds like a smart-aleck response, the truth is simple: Your company is worth what someone is willing to pay for it. A business valuation, at its core, is really just the junction of cash flow and time. Simply put, how long will it take the buyer to recover the cost of the investment? Currently, most buyers in the DME market have an appetite for no more than a three year return on an investment (ROI). The most common way buyers measure this return is by an adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization). This measurement is taken from historical numbers of the company with the most recent numbers being the most relevant. Forward looking EBITDA is seldom, if ever, used.
Leave emotion out of the equation. I get it—I was once a DME owner, too, and I was very proud of what I had built. My ability to take care of my patients and my sterling record with Medicare were great, but great ethics and likeability don’t necessarily result in financial success. Put yourself in a buyer’s shoes and ask yourself what you would want out of an acquisition. Most likely you would want a return on your investment plus the ability to grow.
Multiples are simple general rules or “back of the napkin” valuations that are common in all markets and are surprisingly accurate. Currently, DME multiples are two to four times EBITDA, 2X being low or below market, 3X average market and 4X premium, not to exceed one times revenue. This means that a company with an adjusted EBITDA of $1 million would have a $3-million valuation, provided their revenues are above $3 million, less any long-term liabilities.
Obviously, there are other factors that contribute to valuations aside from cash flow and time. Scale and diversity are two factors that will greatly influence your valuation. Larger companies with diverse product lines and payers are seen as more stable and, subsequently, warrant higher valuations. Other factors include future prospects of the business, synergies associated with the two entities, specific risks associated with the entity, systemic or industry risk, current inventory levels of available companies and many more.
Competitive bid-winning DMEs are especially difficult to value because what should be the promise of high future prospects comes with very low reimbursements, in many cases less than the cost of goods sold. As a general rule, I have been discounting Medicare cash flows from the historic EBITDA earnings and adding additional value back in based on the attractiveness of certain bids and other demographic factors. Companies that are not subject to competitive bidding are highly attractive and, depending on their product and payer mix, are obtaining on average 3X EBITDA, and in rare cases even 4X EBITDA. Some of these attractive products are urologicals (catheters), complex rehab and CPAP.
Valuations are an art form based on a company’s financials. To obtain the most accurate valuation of your company contact a mergers and acquisitions (M&A) advisor that is active in the DME marketplace (your local M&A guys know very little of this particular marketplace).
Once you have a completed valuation on your DME, you have an excellent starting point to negotiate a selling price for your company. Remember, a valuation sets forth a base line of definable value and realistic expectations of the price of a business. A valuation is not at all the decisive factor of a company’s value, but it is definitely justification the seller can use to his or her advantage to persuade the buyer that it is.
