What is my Manufacturing Company Worth?

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Do you understand what your manufacturing company is worth?

There are many reasons to have your business analyzed by a business valuation professional. Some of the most common are for gifting, estate tax purposes, divorce, or receiving a loan. Regardless of the case, a business valuation professional will follow a similar process in determining the value of your business. The value of a company is generally determined by using three different approaches:

  1. Asset approach: The asset approach is used by determining the fair market value of the underlying assets and liabilities inside a business. To perform this approach, the valuation professional will either request appraisals of certain assets or use the actual values at the valuation date. In some instances, methods under this approach are the most probable and unbiased compared to the other two. The disadvantages of this approach are that it typically does not consider the earnings potential of the subject business and can be very costly.
  2. Income approach: The income approach focuses on the company's current, historical, or potential income stream. The value(s) are capitalized or discounted back to the valuation date, respectively. This method is more complicated than the asset approach because it uses current or potential earnings, cash flows, and an estimated return rate. Under this approach, the valuation professional must determine a subject company's risk and rate of return. The income approach generally requires the highest level of professional judgment to determine a value.
  3. Market approach: The market approach compares similar private or publicly traded companies that have been previously sold to determine a value. This approach requires professional judgment since it relies on the economic and industry conditions and intangible value associated with customer connections and team experience. The market approach is often the easiest to understand outside of the valuation profession but can be tough to apply due to the lack of comparable information.

Due to most manufacturing companies relying heavily on assets for operations, business valuation experts will commonly use an asset-based approach or a hybrid of the asset and income approaches to determine the value of the business. As part of the business valuation process, professionals will typically review several valuation methods under each approach and determine which best represents the subject company's value based on their professional judgment.

Now that the big picture of determining a value has been established, it is essential to investigate more company-specific attributes. 

  • What is the current economic landscape in the manufacturing industry? 
  • How has the COVID-19 pandemic affected the value of my business?
  • How has the company performed financially in the past, and how does it expect to perform in the future? 

These are all valid questions that should be answered when beginning the process of preparing a business valuation.

Manufacturing Industry

To cater to the topic at hand, we will start by analyzing the subject company's industry. The manufacturing industry is generally defined as companies transforming raw materials into new products using mechanical, physical, or chemical methods. In some instances, parts are assembled into new goods in this industry. For example, finished products may be sold directly to consumers or wholesalers for resale. Companies in this industry heavily rely on debt financing and are asset-intensive. As a result, companies in this industry vary significantly due to the products.

According to the IBISWorld September 2021 Report for Manufacturing in the US, the industry is anticipated to increase at an annualized rate of 0.4% to $6.0 trillion over the five years to 2021, including an increase of 9.8% in 2021 alone due to recovering domestic and global demand for industry products from COVID-19 (coronavirus) pandemic-induced lows. Industry revenue growth has been decelerated by the estimated 7.7% decline in revenue in 2020 as the pandemic and subsequent government closure of nonessential businesses and tepid global demand hampered industry performance. The rise in coronavirus-related costs and commodity price volatility is also expected to weaken industry profit during the period.

Volatility in commodity prices, trade tensions, and coronavirus-induced tepid global demand have led the value of industry exports to decline during the current period. Commodity-driven economies are critical buyers of US products, and volatile commodity prices have hampered demand for sector products. However, in 2021 commodity prices have recovered mainly from coronavirus-induced lows, boosting revenue for sector operators.

Over the five years to 2026, revenue for the manufacturing sector is forecast to continue to experience growth. Sector revenue is expected to increase at an annualized rate of 0.8% to $6.2 trillion over the next five years. Commodity prices are anticipated to stabilize from coronavirus-induced volatility and renewed demand, both in the US and global economies, which is anticipated to facilitate revenue expansion for manufacturers. However, the uncertainty surrounding the variants of the coronavirus pandemic poses a significant risk to sector operators. Manufacturers are also at risk of changes in trade conditions related to tariffs and trade agreements. However, there is also the potential for uncertainty to dissipate during the outlook period. Moreover, shifting technological change in the manufacturing sector is anticipated to benefit large, developed economies, such as the United States.

A term often used for industry-specific business valuations is "multiples." Buyers and sellers in the market want to know what type of multiple will be received for a business's potential sale. A multiple is generally used to convert earnings before interest, taxes, depreciation, amortization (EBITDA), sales, or some other form of income stream into a business value.

Example: If the current multiple of EBITDA in the manufacturing industry is 4.5, a company with a current EBITDA of $200,000 would expect the fair market value of the subject company to be in the range of $900,000. While multiples can be skewed by company size and sales transactions that are outliers to the norm, it is an excellent way to develop a range of value for the subject business.

One commonly used method to determine if a manufacturing business meets expectations is comparing it to current industry benchmarks and key performance indicators. To understand how indicators affect value, it is important to be aware of the most common in the manufacturing industry:

  • Avoided cost
  • Capacity Utilization
  • Cash to cycle time
  • Changeover time
  • Customer Returns (Rejects)
  • Cycle time
  • Demand forecasting
  • Downtime to Operating Time
  • Employee Turnover
  • Energy Cost Per Unit
  • First Pass Yield
  • Health and Safety Incidence Rate
  • Inventory turns
  • Machine Downtime Rate
  • Maintenance Cost Per Unit
  • Manufacturing Cost as a Percentage of Revenue
  • Manufacturing Cost Per Unit
  • Material Yield Variance
  • Non-Compliance Events / Year
  • On-Time Delivery
  • Overall Equipment Effectiveness (OEE)
  • Overtime Rate
  • Percentage Planned Maintenance
  • Production attainment
  • Return on assets (ROA)
  • Scrap Rate
  • Take time
  • Throughput
  • Total Manufacturing Cost Per Unit Excluding Materials
  • Work-in-Process

Note: The key performance indicators above may not apply to every manufacturing company based on specific operations. 

If applicable, it is essential for business owners and managers to know how each is calculated and how their business continually compares to industry standards. Business valuation professionals often use research databases that collect each specific manufacturing niche's information within the industry. Common data used are industry benchmarks, consisting of operating, financial and other ratios, multiples for sale, and previous sales reported to the database. All of the information provided aids in determining if a subject company is performing in comparison to the industry.

Questions about what your Manufacturing Company is Worth?

If you are interested in learning what creates value in a business or want to know more about the steps to complete a business valuation, please contact our team today! Our team of Certified Valuation Analysts is experienced in practicing all the above valuation approaches to perform credible business valuations for a wide variety of clients. 

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