Why many family businesses are suddenly close to worthless: Gottliebsen

Around 800,000 Australian families have dedicated their lives to building up a small enterprise. For many baby boomers, the family business was effectively the equivalent of a superannuation fund and around now they expected to sell the business at a pric

Around 800,000 Australian families have dedicated their lives to building up a small enterprise. For many baby boomers, the family business was effectively the equivalent of a superannuation fund and around now they expected to sell the business at a price that reflected the enormous amount of effort they had put into it.

But a large number of families ended 2008 shocked at the sort of EBIT multiples that were available for their treasured enterprise.

For small businesses with a turnover of between $500,000 and $1 million operating in manufacturing, wholesale, retail, accommodation, restaurants and transport, the average was an EBIT multiple of only around two, but many businesses were sold for an EBIT multiple of less than one.

That represented less than one year’s cashflow – the businesses are close to worthless. Even in more substantial businesses with turnovers between $5 million and $15 million, EBIT multiples of between one and two were common in manufacturing, wholesale, retail and restaurants. This data has been assembled by the BizExchange group, which has prepared an index of trades that are undertaken through its electronic business exchange.

BizExchange, headed by SmartCompany blogger Andrew Kent, points out that it is not just the difficult economic conditions that are affecting the value of businesses – it is a structural shift. Many businesses no longer include freehold property but rather are a series of rental and lease agreements so that the value in the business is in the customer and supplier networks.

Two years ago banks were prepared to lend on cashflow. Now they are very nervous about lending to businesses that don’t have a strong asset base. At the same time the next generation of potential buyers doesn’t have the money to pay large sums for businesses.

Most of them didn’t enter the work force until they were older, have borrowed heavily to buy a house, and the rest of their money is tied up in superannuation. Some tried to break out of the capital prison by borrowing to invest in the sharemarket, with disastrous consequences.

BizExchange reports that many entrepreneurs withdrew their businesses from sale when they discovered it was worth little more than one year’s earnings. Instead, they preferred to continue operating the business than sell it for next to nothing. It is much easier to develop an existing business than to establish a new one.

In theory the low EBIT multiples present a wonderful opportunity for budding entrepreneurs to get up and running with an established business base. But they are being starved of capital which, if continued, will affect the long term growth and employment base of the nation.

This article first appeared on Business Spectator