Sustainability of key company metrics essential when prepping for sale

Originally published in The Business News

In preparing a company for a possible sale, business owners have to be aware of the key metrics buyers care about most. Even during the COVID-19 pandemic, these important metrics haven’t changed: earnings before interest, taxes, depreciation and amortization (EBITDA), cost of goods sold (COGS) and cost of sales (COS). What has changed is how buyers will evaluate how a company adapted to a black swan event like the pandemic and whether that adaptation is sustainable to the future success of the business after a sale. Buyers are also paying closer attention to the resiliency of a company’s supply chain.

Improving EBITDA

A stronger EBITDA number will make a company more attractive to a potential buyer. A company can improve its EBITDA two ways: increasing revenue or decreasing operational costs. Studies have shown the same movement of EBITDA will be achieved by a 10% increase in revenues or a 1% decrease in operating costs.

It’s not surprising companies looking to improve this key metric in the short-term focus on costs more than revenue. Buyers, however, will look closely at how a company tries to reduce costs.

Manipulating COGS and COS

Companies can consciously reduce COGS and COS, but each cost also can be affected by events outside of the company’s control. If a company is positioning itself for sale, reducing COGS or COS have similar impacts on EBITDA; buyers, however, are alert to unsustainable changes in either of these metrics.

When a business starts experiencing unexpected movements in its COGS, for example, it indicates to a potential buyer the company does not have the appropriate controls over its supply chain.

A company that tries to improve their numbers three months before a sale will discover that buyers will value the business at a lower multiple, on the assumption that the changes represent a one-time, and not sustainable, savings.

If a seller thinks its valuation is not where it should be, and it can effectively cut costs, the time to make improvements is now, not necessarily for a sale in 2021, but in a preparation for a sale in 2022.

Paying attention to risk

What the pandemic has made clear is that many companies have not paid appropriate attention to risk over the past 30 years, especially when it comes to their supply chains. Part of positioning a company for sale is understanding what those risks are and capitalizing on them.