How can you account for differences in size and scale during precedent transaction analysis?

1 Enterprise value multiples

One of the most widely used techniques to account for differences in size and scale is to use enterprise value multiples, such as EV/EBITDA, EV/Revenue, or EV/EBIT. These multiples measure the value of a company relative to its earnings, revenue, or operating profit, which are indicators of its size and scale. By using these multiples, you can compare companies with different absolute values but similar profitability or growth potential. For example, if a company has a higher EV/EBITDA multiple than another company, it means that it is valued more for each unit of earnings, which could reflect its competitive advantage, efficiency, or growth prospects.

2 Normalization adjustments

Another technique to account for differences in size and scale is to make normalization adjustments to the financial metrics of the comparable transactions and the target company. These adjustments aim to eliminate the effects of non-recurring, extraordinary, or one-time items that may distort the true performance or value of a company. For example, you may need to adjust for restructuring costs, impairment charges, discontinued operations, or accounting changes that affect the earnings, revenue, or assets of a company. By making these adjustments, you can ensure that you are comparing the underlying and sustainable performance and value of the companies.

3 Control premium and synergies

A third technique to account for differences in size and scale is to consider the impact of control premium and synergies on the transaction prices. Control premium is the amount that a buyer is willing to pay above the market value of a company to gain control over its operations and strategic decisions. Synergies are the benefits that a buyer expects to realize from combining the operations and resources of the target company with its own. Both control premium and synergies can increase the transaction prices and affect the valuation multiples. Therefore, you may need to adjust for them to reflect the standalone value of the target company or the value that a different buyer would pay.

4 Selection criteria and peer group

A fourth technique to account for differences in size and scale is to apply appropriate selection criteria and peer group for the comparable transactions. Selection criteria are the factors that determine which transactions are relevant and comparable to the target company, such as industry, geography, time period, deal size, and deal type. Peer group is the set of companies that share similar characteristics and operate in the same market as the target company. By applying these criteria and group, you can narrow down the transactions that have similar size and scale to the target company and avoid comparing transactions that are too large or too small, too old or too recent, or too different in terms of business model or strategy.

5 Sensitivity analysis

A fifth technique to account for differences in size and scale is to perform a sensitivity analysis on the valuation multiples and the implied value of the target company. Sensitivity analysis is a method that tests how the results change when you vary the assumptions or inputs of a model. By performing this analysis, you can assess the range of possible values for the target company and the impact of different size and scale factors on the valuation. For example, you can test how the implied value of the target company changes when you use different multiples, such as the median, mean, minimum, or maximum of the comparable transactions, or when you apply different normalization adjustments, control premium, or synergies.

6 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?