Buying, Selling or Keeping Your Business? Show Me Your EBITDA!

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Buying, Selling or Keeping Your Business Show Me Your EBITDA!Imagine you’re at your doctor’s office, and she tells you that your score is under 200. You’re very happy to know it, because this particular number represents your total cholesterol score. For the average adult, that’s good. If your score was over 240, that would not be so good, because it’s in the high range.

In the same way, you can analyze your portable sanitation business and give it a number or figure that represents its health or its capacity to run efficiently. It is called EBITDA. Good news – you don’t have to give a drop of blood to get this number! You just have to do a little math.

EBITDA is an acronym that stands for “Earnings Before Interest, Taxation, Depreciation and Amortization.” It’s an accounting method that measures your company’s fiscal condition and its ability to create income. It’s not the only way to measure business health, but it offers distinct advantages that you can use, especially in several critical phases that you may encounter in the life cycle of your business.

EBITDA is a helpful concept to understand in the business environment because:

  • EBITDA is widely used and accepted

Most industries use EBITDA as a resource for financial analysis, not just portable sanitation. It can be especially beneficial for the small business owner.

  • EBITDA is easy to calculate

It’s based on figures that business owners have readily available in the course of their financial bookkeeping. Or, as we also discuss, it’s easy for an accountant to do.

The Elements of EBITDA

Before we discuss why EBITDA can be useful to you in the operation of your portable sanitation business, let’s explain how it works.

EBITDA is really nothing more than a mathematical equation, using financial information about your business. It is expressed as:

EBITDA = Earnings (Net Profit) + Interest + Taxes + Depreciation + Amortization

Or:

Earnings (Net Profit)

+ Interest

+ Taxes

+ Depreciation

+ Amortization

EBITDA

As a business owner, you should already have some familiarity with the variables that make up the equation. Let’s review in more detail what the letters stand for.

E- Earnings

Earnings in the EBITDA formula means net profit. To determine the net profit of your company, subtract your total operating expenses from your gross profit:

Gross profit – total operating expenses = net profit

Gross profit is total sales minus the cost of providing your portable sanitation services (gross profit = sales – cost of services). The cost of your services are variable costs – expenses that change depending on your sales, such as hourly wages and supplies. Your operating expenses are fixed costs (costs that basically always remain the same) that include rent, utilities, salaries, time costs, insurance and marketing.

So, another way to express EBITDA is:

EBITDA = (Gross profit – total operating expenses) + Interest + Taxes + Depreciation + Amortization

I – Interest

Your interest expenses are all the costs of borrowing money to finance your business. When you take out a loan to buy a truck, for example, the bank charges interest on the money you borrowed. You pay off the debt over an agreed amount of time. Interest in a non-operating expense.

T – Taxes

Taxes are the state and federal income taxes you pay on your business. Other taxes, such as property tax, payroll tax and other local taxes aren’t included in EBITDA.

D- Depreciation

According to the IRS, depreciation is the loss of value of an asset over time, due to wear and tear, deterioration or obsolescence. Most types of tangible property, such as buildings, machinery, vehicles and equipment are depreciable. (For an overview of depreciation as an income tax deduction, please read the IRS page at https://www.irs.gov/businesses/small-businesses-self-employed/a-brief-overview-of-depreciation.)

There are many ways to calculate depreciation, but the most basic is called the “straight line” method. To use this method, you need to know the cost of the product, its “salvage value” and its estimated useful life. The formula is to subtract the salvage value from the original price, then divide by the number of years of estimated useful life:

(Purchase Price – Salvage Value) ÷ Estimated Useful Life = Depreciation

If you purchase a pumper truck for $100,000, expect to use it for ten years, then sell it for $40,000 (its salvage value), the depreciation is 100,000 – 40,000 ÷ 10 = $6,000 per year.

A – Amortization

Amortization is similar to depreciation, but it deals specifically with intangible assets, such as licenses, and payments of principle and interest on mortgages and other loans.

EBITDA Example

You can calculate your company’s EBITDA annually and compare it from year to year. The EBITDA formula applied to a small portable sanitation business over two years might look like this:

First year                                                            Second year

Net earnings: $  90,000                              $  85,000

+ Interest:           $    1,000                              $    2,000

+ Taxes:                $  30,000                              $  30,000

+ Depreciation: $  10,000                             $  14,000

+ Amortization: $    5,000                              $    6,000

EBITDA:            $136,000                              $137,000

Notice that although the net earnings were higher in the first year of operation, the EBITDA is higher in the second year.

EBITDA Shows Health & Value

EBITDA helps you determine two critical aspects of your portable sanitation business:

  1. The health of your company
  2. The commercial value, or worth, of your company

Health

Just like the cholesterol score, EBITDA is a “health check” on your business. Your company’s health is its operational performance – its ability to consistently deliver earnings. EBITDA cuts through the financial variables to give you a real look at the profit potential of your company.

Value

EBITDA gives you an objective view of the current economic value of your company. Determining the value is often difficult for an owner, but extremely important, since so much of his or her net worth is tied up in the company. There are many complex ways of doing so, but EBITDA is a fairly simple “snapshot” of company worth.

Buyers, Sellers and Keepers

There are three situations in the life of your business in which it will be necessary (or at least highly recommended) to know your portable sanitation company’s EBITDA: buying, selling and keeping:

  • Buying: someone is interested in buying your business, or you are interested in buying a business
  • Selling: you are interested in selling your business
  • Keeping: you want to continue to operate and grow your business
Buying & Selling: Know the Multiple

To better understand EBITDA as it applies to buying and selling, you should also know about the concept of the “multiple.”

When you are in the market to sell your company or to purchase another company, or when someone is interested in buying your company, then you need to become familiar with the “EBITDA multiple” or “multiplier.” A potential purchaser will ask for your EBITDA, then his or her offer to buy is based on a multiplier of that EBITDA, such as three or four times the amount (3X or 4X).

Just like the EBITDA number itself, the multiplier is used for many industries.

In order to determine the multiplier, a financial or business valuation expert will review comparable sales that have occurred recently in the portable sanitation industry. The estimate also depends on industry and market reports for your area, and depend largely on geography, quality of equipment, and reputation in the market.

Also, while you use a single value for the EBITDA multiple, the buyer will often give you a range to start. Since it’s not an exact science, the final figure is negotiable.

According to Mike Adams, Managing Director of PolyJohn USA, portable restroom companies have usually sold for three to six times their EBITDA.

Buying

The ongoing consolidation in the portable restroom industry makes business valuation essential. As you establish a solid business, you never know when you may get an offer from an entrepreneur, competitor or consolidator who is interested in buying your company. It doesn’t mean you have to sell, but when an offer is on the table, you should give it careful consideration.

Experts receive calls daily from PROs asking how to determine the value of their business, and they recommend every PRO figure out their worth. Don’t be caught off guard if the unexpected occurs. Instead, sit down now and do the math. This vital step is critical to your business plan and affects your future growth. It makes sense to set a real value on what is often your biggest asset — your business.

Your business strategy may also include the opportunity for you to become the buyer. A common way to expand your business is to “buy the growth.” The advantages of acquiring another portable sanitation business (or merging) include:

  • Increasing profits
  • Improving cash flow
  • Obtaining operational assets below market value
  • Increasing your share of the market in your service area
  • Expanding your service area
  • Taking advantage of economies of scale
  • Eliminating competition

When you become an entrepreneur in the market for acquisitions, you can take advantage of one of EBITDA’s most often used features: comparable company analysis.

All portable sanitation companies have unique characteristics. One company might be leasing equipment, or finance differently, or have different taxes. Financial experts say EBITDA “levels the playing field.” It allows you to compare “apples to apples.” If buying is part of your strategy for growth, you need to understand EBITDA, because the owners of these other establishments will probably show you their company’s EBITDA to demonstrate their value.

Let’s say the two EBITDA scores in the example above were from two different portable sanitation companies, and you were interested in buying one of them. Based solely on net earnings, it would seem that the first example is the better value. However, EBITDA indicates that the second example may actually be the more valuable property.

A word of warning for buyers. Some unscrupulous business owners will inflate their company’s EBITDA in hopes of taking advantage of the unsophisticated businessperson. But since EBITDA is not the only measure of a company’s financial situation, this manipulation won’t withstand scrutiny under a careful financial review.

Selling

There are some differences between receiving an unsolicited offer to buy your business and deliberately planning to sell your business. In either case, when you make the decision to sell your business, you want to maximize your valuation. To do so, make EBITDA part of your selling strategy.

First, as a representation of company health and value, EBITDA can cast your company in a more positive light than other financial analyses. In the examples above, notice that the EBITDA figures are larger than the net earnings. EBITDA puts the spotlight on performance and profitability potential, and that’s what buyers want to know.

An experienced buyer/entrepreneur may ask you for your company’s EBITDA for the past three to five years as a baseline number from which to start the process of financial analysis and negotiation. So, if your ultimate goal is to sell your business, start thinking EBITDA about three to five years before your projected selling date.

Your long-range strategy should include reviewing your EBITDA and working towards improving your numbers year by year. Maximize the valuation of your company by pumping up your sales goals, cutting costs, expanding your service area or in other ways that create growth. Assess your company’s reputation within the industry. If possible, take note of other sales of portable sanitation businesses to see how active the market is.

It’s also not too early to reach out to potential buyers by introducing the idea that you are making plans to sell a few years down the road. Use social media, or simply put the word out to your colleagues at Chamber of Commerce get-togethers, industry events and other business-casual occasions.

Remember, in all cases, protect yourself with Non-Disclosure agreements and make sure you have a reputable attorney familiar with commercial law working for you and looking out for your best interests.

Keeping

Most PROs are still working hard to make their business grow and don’t foresee selling their company for a long time. Knowing your EBITDA is still very useful. As mentioned earlier, EBITDA helps you determine two critical aspects of your portable sanitation business – the health of your company and the commercial value, or worth, of your company. For the PRO with no current intention of selling, you might think of these two aspects as short-term and long-term business goals.

Appraising your company’s health helps you understand your strengths and weaknesses and put effective strategies in place for day-to-day operations. For example, having a plan for maintaining trucks and restrooms are actions that maintain the good health of your company. Or, recognizing the importance of your company’s reputation when negotiating a multiple, you should be looking for ways to earn positive reviews and build your “street cred.”

Knowing your company’s value can guide you long-term. It helps you stay focused on the big picture. Instead of getting caught up in the day-to-day operations, you’ll be aware of the marketplace and identify areas for potential growth. Opportunities may include expanding your service area, taking on larger events or adding winter events, planning a long-range program of capital expenditures, or increasing your staff. Long-range guidance can also help you overcome occasional, temporary economic downturns.

In addition, many circumstances require a business valuation even when selling is the furthest thing from your mind. PROs use a company’s actual value when considering retirement, buying out a partner, or doing estate planning (which should be done sooner rather than later). Are you looking to bring on an investor? EBITDA is one of the first numbers that an investor requests.

EBITDA can help you prepare for the unexpected. What if you or a family member suddenly faced a severe health problem that forced you to sell? It’s important to know your business’s value early on to avoid unexpected problems and ensure you’ll be able to sell your business if needed. Those who don’t understand this figure and face an unexpected event are left scrambling. It’s important to know the worth of your business as part of all aspects of your future planning and growth strategy.

Trust a CPA

As the owner of a portable sanitation business, you have to wear many hats. It may be that being a financial expert is one role that you are not good at. If calculating your EBITDA and using it as a guide in making critical financial decisions is something you’re not willing to attempt, consider hiring a Certified Public Accountant (CPA).

A CPA is an accountant who has passed the Uniform Certified Public Accountant Examination and has met all state education and experience requirements.

You can hire a bookkeeper for basic financial recordkeeping and managing your account, or an accountant to do your taxes. But hiring a CPA may be especially beneficial for sole proprietors (a “one man, one truck” business). The Small Business Administration (SBA) says that a CPA can not only help manage your finances and taxes, but can also:

  • Act as a trusted advisor to help you manage cash flow, plan for growth and assess business risk
  • Help make sound judgments for business and personal needs

There are certain advantages to hiring a CPA instead of an accountant (not all accountants are CPAs). A CPA is more familiar with tax laws, can advise you on tax and financial matters, and can represent you if you are audited by the IRS.

Referrals are a good way to find an accountant you can trust. Talk to other PROs, your local Chamber of Commerce, or contact your state accounting society.

Disclaimer: Content provided by JohnTalk is intended solely for general information purposes. JohnTalk does not claim to offer legal, tax, investment or accounting advice. We do not accept liability for direct or indirect losses resulting from the use of information provided. For specific advice about starting or investing in a business, consult with a qualified and licensed professional.

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