Mergers & Acquisitions- Speaking the Language
Do you ever feel like everyone in the room speaks a foreign language, but they are actually speaking English? That’s how we feel when we talk to many professionals in the M&A space. They use big words, string together complex sentences, and make recommendations based on promises of high return.
We want to explain some basics when deciding to sell your business, and how you can speak English with an M&A dialect.
Here are a few commonly used statements. It’s ok, we didn’t learn about these either in school.
- If you are a business owner, or anyone other than a banker, lender, broker, or attorney, you likely had never heard of this acronym. It stands for Earnings Before Interest, Taxes, Depreciation, and Amortization.
In case you’re wondering, this information is located on your income statement. It tells us how profitable the business is, and possibly if you have cash flow issues.
How? Because after removing expenses other than selling, general, and administrative will leave us with your operating expenses, from which we can subtract it from your revenue for a quick calculation of how high or low your earnings are.
There are drawbacks, however. Many underwriters and investors use EBITDA as a measure of operational efficiency when determining profitability.
Warren Buffett (yes, that Warren Buffett) once referred to EBITDA as “BS Earnings”. EBITDA is not regulated by GAAP (Generally Accepted Accounting Principles), therefore investors and lenders are left to the mercy of the company to accurately report depreciation. Additionally, this also means that if depreciation isn’t utilized correctly, the profitability of the business can be skewed and will be found during the diligence process.
Bottom Line: We don’t rely on EBITDA alone when reviewing your business for sale. Your CFO and CPA should be working very closely together to determine operating health utilizing several ratios and tests.
- This is a really important measure of your company’s performance. But what does it actually mean? Really, it’s the measure of how easily you can pay your bills without using borrowed money. It’s a great way to determine the cash flow health of your business, and if operations cease, how much cash can be used to cover obligations. The current Covid-19 crisis is a great example of why staying liquid is so important. Many of us needed to make payroll and rent- hard to do with thousands tied up in equipment loans.
- Weighted Average Cost of Capital (WACC). WACC is a pretty complicated formula for how much it costs for the company to borrow money. This borrowed money is from debt and equity financing- with a percentage being the output of the equation. Basically, in finance and M&A we use this to determine if your costs of capital are straining the business and if debt or equity positions need to be refinanced or adjusted. Companies strive for an efficient mix of debt strategy, often allowing for substantial tax benefits.
While there are many more jargon terms out there, these are the phrases we hear on a constant basis and are the among the most notorious for sharks looking to confuse.. If you don’t speak the language, it’s easy to get sold a line by someone who will promise significant returns or will push you into buying a company that looks better on paper than it will perform in person.
For more jargon defined, click here for an outside article explaining some terms.
When you’re thinking about buying or selling a business, it’s imperative to include your entire finance and operations management team. There are so many ways to lose if you don’t understand jargon, and these commonly used phrases.
Working with us, along with your CPA, attorney, and internal management team will give the best-case scenario based on facts, knowing your business, and having an already developed strategy to prepare for a sale or transfer of ownership.