The impact of small firm premium on EBITDA multiples

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The lower mid-market is full of opportunities for M&A as companies in this segment are sold for lower EBITDA multiples. Dealsuite bi-annually publishes EBITDA Multiples focused on the lower mid-market.

It is well-known that company size is a key factor in valuations, but the extent to which it matters is sometimes overlooked.

The size of this effect can be observed clearly by comparing valuation differences across mid-market and lower mid-market companies. In fact, we are often asked about discrepancies between Dealsuite multiples and those of other online sources, and company size is commonly the answer.

The variations in multiples can result in significant price differences. In its report for Q2 2021, Argos, a European private equity group together with Epsilon Research, cited a record high EBITDA multiple of 11.6x for eurozone companies, compared to an H1 2021 average of 5.4x for companies monitored by Dealsuite in the DACH region, France, the Netherlands and the UK.

Size is likely the main reason for this difference. Smaller firms tend to be valued lower because they are more likely to be dependent on key customers, suppliers or staff. The company could be affected if any one of these stakeholders disappears. That means individual deals in the lower mid-market can be risky, but buyers are finding that these risks can be minimised through a programmatic approach to M&A — and this is backed by research. The Dealsuite multiples reflect on the small firm premium.

For example, Dealsuite’s multiples are based on transactions involving companies with revenues of between €1m and €200m, where the large volume of transactions happens between €5-50m. By comparison, the Argos Mid-Market Index looks at deals with equity value in the €15m to €500m range and cites an average deal size of €120m in its latest report.

Bigger companies are not as dependent on their key-shareholders and therefore receive higher valuations. Indeed, this is one of the factors driving the growth in M&A activity in the lower mid-market space. 'Multiple arbitrage' is a quick and easy win when buying companies in the lower middle segment.

The EBITDA multiple also varies considerably by geography and sector. Dealsuite research shows that IT services companies in the UK, for example, have an average multiple of 8.2x, compared to just 6.5x for Dutch companies in this sector. This can mean that differences in the composition of an index will result in valuation discrepancies, even with datasets of similarly sized companies.

Data that can be screened for company size, geography, sector and many other factors can allow market participants to develop a much better understanding of selling prices and access unique opportunities.

Dealsuite is the only company that publishes the EBITDA multiples specifically focused on the lower mid-market transactions based on bi-annual surveys conducted among a large sample of M&A advisory firms. A market that often remains out of scope for providers publishing on mid-market or larger transactions.

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