EP 58: Quarter 2 Results

Ed Mysogland  0:00  
As many of you know, I've received lots of questions about value in the state of valuations as well, as you know, is it the right time to sell under the circumstances surrounding this Coronavirus? And anyway, we're now starting to get to get some data. And then that's what I'm going to dedicate this episode two. So there's three sources that I'm going to go over. The first one is Best Buy Sell there, you have their quarter to report that they just released, as well as the merger and acquisition source. And the last one is deal stats. The next thing I'd like to bring up is, I apologize, the number one rule in podcasting is be consistent, don't leave your audience hanging, and I left you hanging and I appreciate all of the emails I received. As far as you know, it was I Okay, and, and such, I'm perfectly fine. Knock on wood, totally Corona free with both myself and my family. So we're certainly blessed in that capacity. But some of my guests have not been so lucky. And as a result, had to cancel it last minute. So as a result, I did not have the backlog that I needed in order to be able to withstand cancellation. So that's on me, and I apologize, and I will do considerably better at being more consistent and offsetting the risk of this crazy COVID environment. So anyway, I hope you enjoy the market analysis, and were kind of where we are. And as always, if I can be of help in any way, shape, or form, just reach out. Please welcome please welcome welcome. This is another episode of the defenders of business value podcast, podcast where we talk about what makes a business valuable learn the tips and tactics to increase your company's value that only veteran filmmakers know. And now here's your host and myself plan.

Okay, our first analysis we're going to do is from the biz Buy, Sell insight report. Biz buy sell is probably the largest online marketplace for deals, I'd say they're probably best served for businesses with revenue south of 10 million or so. So let's talk a little bit about so the small business transactions dropped 39% in the second quarter for 2020. That represents the largest year over year decline since the Great Recession, which dropped 50% in the second quarter of 2009. So I guess that's the good news. The second quarter of 2020 began with obviously the shutdowns postponing deals, and owners kind of pivoted and focused on maintaining their operations while the buyers, they just went into a holding pattern, like for example, we the deals that we had had in motion, everybody pumped the brakes just to kind of catch their breath and see what what was going to happen. So this lack of clarity over which which businesses were essential versus which were required to close, made for some challenges, and for not only the business owners, but those companies like ours that are performing those services. Any rate in the first week of July bizbuysell surveyed nearly 30 to 100 small business owners and buyers to learn, you know how the pandemic had impacted their business or their buying decisions. So according to the survey, 20% of the business owners closed their doors as a result of the pandemic with another 32% Partially suspending operations. So at first, a lot of business buyers, they pump the brakes and paused, looking for for deals. Others, it was hammered down and they wanted to move as fast as possible. But the problem was, no one was lending money, or at least they were pausing like the rest of the world. This dynamic combined with, you know, the dried up cashflow for the target businesses, complicated the short term exit plans that some of the owners were created the challenge for those that were executing on their exit plans. And as a result, they pulled their businesses off the market. Now we're going to talk a little bit about the m&a source Pepperdine survey and they reference it here in this article also, that many nearly half of the deals that were in process were delayed due to the pandemic. So let's fast forward to July and of the 71% of the surveyed owners that were forced to close 71% of them had reopen. So entrepreneurs were pivoting and adapting and seeking opportunity despite the disruption brought on by the pandemic and the former April lows after the 51% year over year decrease in April transactions consecutive 12 Point gains in May and June shrank that deficit to 39

27% respectively, over that same period, the number of buyers searching and inquiring it through the bizbuysell portal, it looks like it recovered, then lips pre pandemic levels. So that's all a good thing. So like I said, there's a lot of money, and we'll talk about it here in a second. There's a lot of capital on the sidelines that are waiting to be deployed. And there's a lot of options for business buyers. So that, that certainly explains a little bit about it. So next, there's a high demand for Booming Businesses. That's our next category. And we're seeing the same thing as this article references then that there are basically two buckets of buyers right now. And the first and larger group are those seeking profitable pandemic resilient businesses. But that's, that's always been the case, good businesses sell in any environment. I've said it 100 times on this podcast, the next bucket of buyers are those that are looking for businesses that are growing under the circumstances. And according to their survey, that's roughly about 44% of those. So many of the buyers that I should say many of the buyers, many of the sellers that we're working with, we find they're thriving in this environment, this pandemic has and the realignment of the United States economy has really helped them. Under those circumstances, we find that buyers are getting somewhat of a rude awakening and this and through the bizbuysell market report here, it found that the market multiples actually increased from from last year to this year, that is a 6.1% increase in in the market multiple and that's good. But it was also a rude awakening to two business buyers that had to contend with thinking that they're going to get a better deal due to a pandemic and find that the multiples are actually improving. So one of the questions is, you know, so what are the types of businesses that are flourishing in this economy and this current under the pandemic, according biz buy, sell its home improvement stores, pet and pet related companies, bike shops, home health care, cleaning services, auto repairs, pest control, bakeries, quick serve, and take out restaurants. A lot of the manufacturing companies have been recession resistant, or COVID resistant. And part of the interesting side note is that of those surveyed business owners, only 18% experienced increased customer demand with an additional 23%. Sustaining in during the pre pandemic demand. I think that goes back to the original premise is that good businesses sell in any environment. This is if your business has been able to withstand reasonably through these challenges, I believe that your business is going to be be worth more just simply because of the offsetting risk. So now let's look at the other side, the other side of the bucket of buyers, the buyers that want to acquire in this this is the heading buyers want to acquire the dip. Everybody wants to buy low and sell high Of course they do. According to the survey, at the right value 59% of buyers would consider buying a closed business due to the pandemic and 81% would consider a business that has remained open but has been negatively impacted. 28%, however, are actively searching for depressed businesses to hold until conditions improve. One of the people that they interview said the same thing that you have to ask yourself, can you see yourself working in this type of business each day? can you improve the business doesn't make financial sense. Often you will find more success buying a business that's doing well despite the current circumstances than adding in value three to six months down the road in line once you truly understand it. And that's kind of the same position that we have all that we've all taken, you know, it's better not to sit on the sidelines and wait for it to improve because you just you don't know you have to get in there. And I believe that a lot of business owners had the opportunity to pump the brakes and work on their business because a lot of the time the business was closed so they got a chance to retool the business and and a lot of the people we're working with are coming out stronger. Alright, so back to the survey. So according to the biz Buy Sell survey 68% of owners experienced a decline, expected to rebound within the next year. Buyers committed to a depressed or pandemic impacted business should consider this timeline when evaluating how much cash flow is necessary to sustain operations while demand returns to normal. Okay,

The next heading is rare commercial real estate opportunity. So moving on to the market outlook, much of the the rest of the economy, the the business for sale market trajectory will depend on the country, you know, are we able to keep this virus under control and based on the the time of this recording, at the moment does not seem that we are able to control it, despite what politicians may claim. I don't think that we're we're done with this by any means. I believe that the unknown future shutdowns and stimulus and how they're the Cares Act and how they're going to work that will will affect us positively or negatively, I will tell you that the greatest wealth transfer in the history of mankind is happening whether or not we've got a pandemic or not. And I think everybody knows that are beginning to warm up to that idea. And we have to do something in order to facilitate that these ownership transitions are not going away anytime soon. And I think we're going to see a lot of capital still being deployed by the SBA, and perhaps some other different types of lending that will only amplify and facilitate the sales in the second quarter, the number of businesses that biz buy sell, had listed for sale dropped 8% versus the previous years as owners really reassess their exit strategy. And that's totally to be expected. 16% of the business owners plan to exit earlier as a result of the pandemic while 20% planned to exit later and 61% indicated that they're not changing their timeline, I would absolutely have expected that same answer. As I said, I do believe that a lot of the decisions made by business owners forthcoming is probably going to be part of what happens with the Cares Act. If you close your deal by September 27. Through the SBA, you get your first six months of payments waived not deferred waived, they meaning the SBA will pay your first six months payments. And so there's, there's a total mad rush to get that done. I've talked to a couple of lenders that we work with on a regular basis. And everybody's kind of in the same position that if you don't have your deal done, at least in principle, in the next week or so you're probably not going to be able to get adhere to this adhere to this policy that the SBA has, unless they elongate the timeframe, I'm backlogged with a lot of analysis that for companies that we're working with, in part, and part of the reason I've been dragging my feet is because I want the most current information because the most current information is, is what is relevant right now. And I think more than ever getting good solid financial information, especially related to valuation and how how this is affecting the market is really, really important. So if you are considering the sale of your company or planning a future exit, and you know, this COVID thing is, is kind of leaving a cloud in, in your world, I do think you should talk to your accountant, broker investment banker and and evaluate market conditions, because it may be a real good time for you to sell. I don't I don't know based on your circumstances, but nevertheless, somebody that's actually in the in the marketplace can provide you a great deal of guidance to help you make that decision. So as we move into small business values, you know, one of the first thing right out of the gate is that the bid ask ratio has not changed all that much. And that's a good thing. And the takeaway for business owners is this, you know, you can't come out of the gate with some crazy valuation hoping that someone is going to acquiesce and say, you know that that makes that makes a whole lot of sense. I'm still going to buy it even though it doesn't make financial sense. What I'm telling you is that, you know, there's only about an 8% spread between what of the of those companies that sold, there's only an 8% difference between what was asked and what it sold for. So you may want to think through putting out deals that are just so far out of whack that it doesn't make any kind of financial sense, but I mean, that's kind of the norm these days is that there is so much information that's out there that it's hard to find somebody that is just willing to pay a dumb price just because you want it so the deals that did make it across the line in the SEC quarter were strong businesses, they were gonna, they were gonna sell no matter what. And it was just a matter of time to get the capital and all the ducks in a row, despite the pandemic conditions to get it done. We had a number of sales over the second quarter. And we were while the mechanics of the deal and how we performed kind of had to be changed to accommodate the the mandates from the federal government as far as masking and interaction and such. It was really business as usual, a little odd. But nevertheless, it was still business as usual. And we were grateful to help the business owners that we're working with, get across that finish line. So let's now look at what actually sold in the second quarter. So 44% were service related businesses 22% were retail? Well, actually, it's it's more than that it is nearly 40% was retail, depending on what you know, they break down retail, as far as restaurants as well as you know, just general, retail. So non restaurant retail was 22%. And restaurant retail was 18%. So 13% was just other types of businesses. And then 3% were manufacturing did size matter. So the median sale price in quarter two was roughly $290,000. And that 16% of the businesses sold were north of a million dollars, almost half 46% of the transactions Alexa occurred in the service industry. Let me see what other things can I share with you on this, the median number of days on the market for the second quarter was 196 days, which was a 7% increase over the same period in 2019. So taking a little bit deeper look at this. This was caused by lower price businesses taking longer to sell rather than higher price businesses selling faster, you know, the median days on the market for a company that has a million dollars plus in business Rose 2% Over the same period of 2019 consistent with the transaction 10s. Across the marketplace, businesses able to maintain high performance continue to see similar demand as prior to the pandemic. So multiples let me just give you some key metrics by sales price, I'm going to do below a million and above a million. So days on the market below a million was 196 days and above a million in revenue was 200. In two days, the average cash flow multiple was below a million was 2.36. Above a million was 3.6. And again, cashflow is defined as sellers discretionary earnings rather than EBIT da, the average revenue multiple was 62% below 1,000,091% above the average sale to ask him price again, I mentioned this earlier was 92% below 1,000,094% above a million. So that is the biz Buy Sell insight report. Again, this comes out quarterly it is a they do such a great job with what they share in this in the data that they provide folks like us to to help folks like you. So that's best buy. So let's move on to m&a stores.

This is a little bit about the IV BA in the m&a source market pulse. This is a quarterly survey done by the International Business Brokers Association and the m&a source market pulse market survey was created to gain an accurate understanding of the market conditions of businesses being sold as mainstream businesses is lower, as well as the lower middle market defined as two to $50 million in revenue. This is a national survey that's conducted. Yeah, with the intent of folks like me being able to help folks like you. So the second quarter survey was conducted from July one through 15. It was done there. 361 brokers and m&a advisors that responded and they reported on 176 transactions. Let's go ahead and get to this. So the small business m&a market obviously was shaken but it's still resilient and surveying the Main Street business brokers, they found that 36% of the deals had been delayed 16% had been cancelled and 40% remained unaffected. So of the delayed businesses, the main street transactions 24% were expected to be delayed 45 days 21% were expected to be delayed 60 days and 26% were expecting to be delayed 90 plus days. The delays were attributed to the buyer 44% The seller 26% into bank financing 24% Looking at the lower middle market advisors They found that 37% of the deals had been delayed 10% were canceled 41% remain unaffected of the delayed transaction 17% were delayed up to 45 days 16% were expected to be delayed 45 to 90, and 29% were expected to be 90 days or more. And in our shops, we've found the same thing, that we have one deal that's, you know, just subject to the group that they're serving. If the fog lifts, they should be in good shape. If the fog does not lift the COVID fog, that is, they might be in a little bit of a tight spot. So overall, from the advisors in the survey, both sectors predicted the market would not return to pre March 2020 levels until q1 or q2 in 2021. And that was 24% and 22%, respectively. Okay, moving over to the deals that were in process, where are the businesses, so of the advisors that reported, nearly half of them reported that their clients were operating at normal capacity in quarter two, and that included 26%, who had returned to normal operations after some level of reduction 16% that remain unaffected and 6% that actually benefited, and then the other 40% are still at partial capacity, while 13% remained closed. One of the interesting side notes in this analysis is that not only was COVID problematic, but also riots protests, and the general election is also creating some havoc in the deal market. Let's move over to market sentiment, the seller market sentiment dropped to record lows in quarter two falling below levels seen during the last eight years. And this includes the first time in the market pulse history, dating back to 2012, that the seller market sentiment dropped below 50% For the low lower middle market. That's pretty telling how they're feeling about entering the marketplace. It'll be real interesting here in the next quarter to see whether or not that bounces back where our business values heading. In quarter two, the final median selling prices were anywhere from 89 to 100%. And I think we saw from the the biz Buy Sell survey that it was between was roughly at 92%. So I mean, that's somewhat consistent. Yeah, so it's 89 to 100% of the preset asking price or internal benchmark. So the lower middle market, again, the five 50 million range, they were nearly always getting asking price. So that was right at 100%. So the multiples. So for the second quarter, you know, less than 500,000, you know, the multiples running the and again, these are medium multiples, you know, they're running at 1.8, the half million to a million is 2.8. And then the one to 2 million in revenue was 3.3. And then the two to 5 million in EBIT da was running at four, I'm sorry, the two to 5 million in revenue was running at four times EBIT da, which is earnings before interest, taxes, depreciation and amortization. And then the five, five to 50 million in revenue was at 5.5. So as we look at these deals, and at the cash at close, believe it or not, there was not a whole lot of difference from last year to this year, despite the pandemic and everything else that's going on. As might be expected with the higher volatility of smaller businesses, those businesses of half million and below, you know, the catcher closing went from 87 to 76. But the half a million to a million went from 84 to 87%. Down, the one to 2 million category was stayed the same at 85%. down as a down payment or cash at close, I'm sorry. And then the two to 5 million in revenue went from 83 to 87%. And then cash at close for the five to $50 million range went from 94 down to 84%. So why our business are selling the smallest ones again, I shouldn't say every in every category, it's retirement. Absolutely every one of them. So and again. That's that's to be expected. So let me quickly go through who are the buyers for the smallest businesses so below half million in revenue. Its first time buyers, the $5 million in revenue businesses again, first time buyers, the one to $2 million in revenue for a third time is first time buyers, the two to $5 million business owners, again because of the access to capital is guess what? first time buyers, and then the five to 50 million, then we'll start looking at strategics and private equity firms. That's pretty telling of the access to capital, because you're talking the availability of capital from your, your smallest to 5 million in revenue is first time buyers. So that's certainly good news for business owners that are hoping to get not only premium value, but who's going to be their buyer. A lot of people are sheepish to private equity groups. But they are thrilled that someone's going to go ahead and take their business and run it the way they perhaps might have and, and keep the people and becomes an income stream the way it served their family, it's going to serve a future family. Okay, so let's move on to what are they buying. Most businesses less than a half million dollars, believe it or not, they're buying restaurants, restaurants at 70% 16% Business Services and 15% personal services. The half million to a million in revenue is consumer goods at 29% followed by healthcare at 13%. The one to 2 million in revenue 16% is construction and engineering. 16% is personal services and 16% is manufacturing the to do 5 million in revenue, it was construction and engineering related companies. 27% was consumer goods and then 20% was business services. And then five to $50 million in revenue was 27%. In was manufacturing 20% was consumer goods and then 13% was business services. So again, this is this is quarter two from the m&a source and International Business Brokers, I will have a link to this PDF in its entirety. So you can read some of the things I just I just spoke about. Now on to deal stats. Okay, let's move on to deal stats. For those of you that have been listening for a while, you know, two of the guys that are integral to to this publication, and that's Kenny Wuhan and Adam Manson. Deal stats is probably one of the premier if not the best place to get market data, I always I always get my data there. Just because there's so many data points and there's there's just a wealth of knowledge of quality control. I mean, you know what, you know, what you're getting, you can rely on it and help people like you

make good decisions. So, this is this is the beginning of the third quarter 2020 edition. So, let me let me get into this. So the EBIT on multiples fall according to to the value index, the second quarter of 2020. So it says that the corona pandemic affecting small businesses across the United States throughout the second quarter of 2020 EBIT on multiples move lower across all industries coming in at 4.4. That decline to the median EBIT, da multiple, in the second quarter of 2020 was representative of the impact of the Coronavirus had on the economy during the quarter as the multiple the first quarter of 2020 pre pandemic was 4.7. And this was the highest multiple to a start of the year over the five year period that and you can't see this. But in the in the chart below. The trailing three quarter average has smoothed out over the last three years would when compared to the period of the first quarter of 2018 and 19 with large swings highlighting the volatility of the prior quarters EBIT on multiple. And so like I said before, I will have links to all of this. So you can you can review it, while the multiples decrease the revenue multiple increase. So the net sales multiple rose to its highest level in the 66 year period. The net sales multiple in the second quarter coincides with the peak of the economic crisis as a result of the non essential businesses locked down that were locked down that were caused by Corona. So the net sales multiples that 61% appears to indicate the selling price remains similar to pre pandemic prices, despite the net sales figure appearing to be slowing as a result of the lockdown. And as I mentioned earlier, that's the same thing that we found in our practice. Value didn't change a whole lot. You know, there was some some reservation and let me see some current data and and what's the likelihood if there was any kind of bump, you know, what's the likelihood it's going to return? But generally speaking, we did not see a whole lot of change in value. So the EBIT, da margins rise to 11%. So EBIT dad's percentage of net sales rose to 11% in the second quarter, moving up just a click When I say click that's 1%, up from 10% of the prior quarter, when it reported its lowest level since the fourth quarter of 2018. So, the median selling price is 4.4 of EBIT. Ah, so the EBIT are multiple for the transportation and warehousing sector increased to 4.2. After coming in at 3.8 not, I'm certain that anybody that's getting delivery services these days, and such that is, that is a place to be. And that's where you're seeing a little bit of a bump in value there. The EBITDA multiples moved higher in mining, quarry oil and extraction sector to 8.6 versus the 8.5 that where they were before. Meanwhile, the EBIT ah multiple for the information sector. And the healthcare sector in the social assistance sector moved down to 11.2 and 6.0, when compared to prior median multiple, that was published last quarter, which was 11.3 and 6.1, respectively. So the EBIT on multiples are the highest, as you might imagine, for it, it always is, yet, you can't just put a blanket statement that just because you have a computer means you're in it that this these multiples can mean a lot of different things to a lot of different people. So make sure you're comparing the right EBIT, da multiple to your business. Okay, a couple more things. And then we'll wrap up. So the 2020 sales price is in favor of sellers with smaller discounts. And so what that means is that the median asking prices that we've saw in both biz, buy, sell and m&a source, it favors sellers. And that hasn't always been the case, actually, it's just been the opposite. Like between 2014 and 2019, the percentage of asking price changed 80% change from 80% to 90%. And has averaged roughly 83%. Now right now, we're running consistently at north of 90%. So that's really good. The economic shutdown slows the pace of selling to a five year high. Okay, that's true. I think everybody's pumping the brakes to to see what's going to happen. That's not uncommon. I think we saw a low 200 I think it was 196 for bizbuysell, deal status reporting 230 days is the median time to sell a company. And then let's see, lastly, you know, the net sales multiple, that public buyers are paying for private sellers is at the highest level ever, that they've been recording. And that's because, you know, there's competition among buyers, as well as a slowing in the growth of net sales and the addition of buying of buying revenue versus building that through through various channels. So again, that was deal stats. So I've said it two or three times now, but I'll say one last time, I'll have the links to all of these reports in the show notes. And as always, if I can help in any way, I'm happy to do it. Just reach out to me at ed at defenders of business. value.com Thanks so much. See you next week.