Knowing how to value a manufacturing business is key whether you’re selling, looking for investors, or planning ahead. It helps you understand your business’s worth and improves your decision-making. The U.S. manufacturing industry is set to grow significantly in the next decade, offering new opportunities for investment.

With 98.6% of U.S. manufacturing firms being small businesses, investors face strong competition. Valuation methods like asset-based and EBITDA help determine a business’s value and give a clear view of its financial health.

A professional valuation shows your business’s strengths and sets a strong base for talks with buyers or investors, not just for this industry but for others as well, for example, when valuing a landscaping business. This guide will cover different valuation methods and important concepts, aiming to give you the tools to handle this important step.

Let’s start by first knowing something about the industry

About the Manufacturing Industry

The manufacturing industry is a cornerstone of the global economy, demonstrating resilience and adaptability. As of 2024, the industry has seen a slight contraction of 1.76% in growth over the past year but remains robust, with 198,000 companies and a workforce of 13.2 million globally. Notably, the sector added 622,000 jobs, showcasing its capacity for job creation despite recent challenges.

Technological advancements are driving the industry’s transformation. The integration of smart factory solutions, generative AI, and industrial metaverse technologies is expected to enhance productivity and competitiveness. For instance, 86% of manufacturing executives believe that smart factory solutions will be crucial in the next five years.

The U.S. manufacturing sector alone contributed $2.87 trillion to the economy in Q1 2024, making it the seventh-largest economy in the world if it were a standalone country. The sector also plays a significant role in exports, with U.S.-manufactured goods exports reaching $1.6 trillion in 2023.

Investment in research and development (R&D) is substantial, with the industry accounting for 53% of all private-sector R&D in the U.S., totaling $361.2 billion in 2022. This emphasis on innovation is reflected in the 139,000 patents filed globally in the sector, indicating a strong focus on technological advancement.

So what I’d like to believe is the manufacturing industry continues to adapt and grow, with significant investments in technology and workforce development ensuring its pivotal role in the global economy.

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The Most Common Valuation Methods for Manufacturing Companies

Valuing a manufacturing business means knowing different ways to figure out its worth. Let’s discuss them.

Asset-Based Valuation Method

It focuses on the company’s tangible and intangible assets and deducts its liabilities. This method provides a clear snapshot of the company’s financial health by evaluating its net asset value. It is particularly useful for companies with significant physical assets or those with multiple divisions.

To conduct an asset-based valuation, I follow these steps:

1. Identify All Assets: This includes both tangible assets like machinery, equipment, inventory, and real estate, and intangible assets such as patents, trademarks, and goodwill.
2. Determine Asset Values: Assess the market value of these assets. This may involve appraisals, market comparisons, or depreciation schedules.
3. Identify Liabilities: List all liabilities, including debts, accounts payable, and any other financial obligations.
4. Subtract Liabilities from Assets: The net result is the company’s equity value or net asset value (NAV).

Considerations:

• Market Value Accuracy: Ensure that the market values assigned to assets are current and reflective of actual market conditions.
• Depreciation and Amortization: Accurately account for depreciation on physical assets and amortization on intangible assets.
• Liability Accuracy: Ensure all liabilities are accurately accounted for, including contingent liabilities which may arise from pending litigation or warranties.

Example

Let’s consider ABC Manufacturing, a company specializing in automotive parts. ABC has the following financial details:

• Tangible Assets:
  • Machinery and Equipment: $5,000,000
  • Inventory: $2,500,000
  • Real Estate: $3,000,000
• Intangible Assets:
  • Patents: $1,000,000
  • Trademarks: $500,000
• Liabilities:
  • Long-term Debt: $4,000,000
  • Accounts Payable: $1,500,000

To determine the company’s value using the asset-based valuation method, we follow these steps:

1. Calculate Total Tangible Assets:

Total Tangible Assets = $5,000,000 + $2,500,000 + $3,000,000 = $10,500,000

1. Calculate Total Intangible Assets:

Total Intangible Assets = $1,000,000 + $500,000 = $1,500,000

1. Calculate Total Assets:

Total Assets = $10,500,000 + $1,500,000 = $12,000,000

1. Calculate Total Liabilities:

Total Liabilities = $4,000,000 + $1,500,000 = $5,500,000

1. Subtract Liabilities from Assets:

Net Asset Value = $12,000,000 − $5,500,000 = $6,500,000

Thus, the net asset value of ABC Manufacturing is $6,500,000. This valuation method provides a clear picture of the company’s financial health, taking into account all its assets and liabilities. It is particularly useful for potential buyers or investors who are interested in the company’s underlying asset base rather than its earning potential.

Income Approach

The Income Approach is a valuation method that focuses on a company’s ability to generate future earnings. This method estimates the value of a manufacturing business based on its expected profitability. It commonly uses metrics like EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) and SDE (Seller’s Discretionary Earnings). These metrics provide a clear picture of the company’s operational efficiency and earning potential, making this approach highly appealing to potential buyers and investors. This method is also commonly used when valuing a small trucking company, gym, law firm and many more.

For income approach, here’s what I would do:

1. Calculate EBITDA or SDE: Determine the company’s EBITDA or SDE from its financial statements.
2. Choose an Appropriate Multiple: Identify an industry-specific multiple, often derived from comparable company transactions or industry averages.
3. Multiply the Earnings by the Multiple: This calculation will provide an estimate of the company’s value based on its earnings potential.

For example, let’s take Plectrify Manufacturing, a company in the electronics manufacturing sector. Plectrify’s financial details are as follows:

• Revenue: $50,000,000
• Cost of Goods Sold (COGS): $30,000,000
• Operating Expenses: $10,000,000
• Depreciation and Amortization: $1,000,000
• Interest Expense: $500,000
• Taxes: $1,200,000

Calculate EBITDA:

EBITDA = Net Income + Interest + Taxes + Depreciation and Amortization

First, calculate Net Income:

Net Income = Revenue – COGS − Operating Expenses – Interest – Taxes

Net Income =

$50,000,000 − $30,000,000 − $10,000,000 − $500,000 − $1,200,000 = $8,300,000

Then, calculate EBITDA:

EBITDA = $8,300,000 + $500,000 + $1,200,000 + $1,000,000 = $11,000,000

1. Determine an Industry-Specific Multiple: For the electronics manufacturing sector, a common EBITDA multiple might be around 5x, based on market research and comparable company sales.
2. Calculate the Company’s Value:

Value = EBITDA × Multiple

= $11,000,000 × 5

= $55,000,000

So, through the income approach, Plectrify Manufacturing is valued at $55,000,000. This valuation reflects the company’s profitability and provides a realistic estimate of its market value, assuming the earnings and multiple are accurate and reflective of current market conditions.

The Multiple of Earnings Method

The Multiple of Earnings method is a top choice for valuing manufacturing businesses. It’s simple and effective. This method uses Adjusted EBITDA and multiplies it by a specific industry multiple. It focuses on real financial performance, making it easy to estimate a company’s value.

Overview of the Multiple of Earnings

The manufacturing industry is huge, with over $6 trillion in revenue. The U.S. has nearly 636,000 manufacturing businesses, none with more than 1.5% of the market. Companies sell at multiples between three to ten, based on their health and customer base.

For instance, an appraiser might use a 3.09x seller’s discretionary earnings (SDE) multiple for a business with SDE of $733,000. This would put the value at about $2,264,970.

Calculating Adjusted EBITDA

To calculate Adjusted EBITDA, start with the net income from recent financial statements. Then, adjust for non-cash expenses, discretionary spending, and non-recurring costs. This ensures a true picture of financial health.

The Adjusted EBITDA formula helps show the financial benefits to an owner. It reflects the true earning potential of a business. Manufacturing companies often have EBITDA multiples between 3.54x to 4.19x. This method helps in accurately applying multiples to the business value.

Common Add-Backs When Calculating Adjusted EBITDA

Understanding add-backs in valuation is key when looking at a manufacturing business’s financial health. These adjustments are vital for getting a true picture of the company’s earnings potential through Adjusted EBITDA calculations.

In manufacturing, common add-backs include various discretionary and non-recurring expenses. Here’s a list of typical add-backs that can boost the adjusted EBITDA:

• Owner’s compensation exceeding market averages
• Health insurance premiums and payroll taxes associated with owner salaries
• Charitable contributions impacting financial statements
• Non-recurring expenses from legal disputes or settlements
• Rent differences for properties rented below market rates
• Personal expenses such as travel, entertainment, and club dues
• One-time expenses that do not reflect ongoing operations
• Employee bonuses that are not standard or expected annually
• Retirement contributions not typically provided by competitors

These adjustments are crucial for making sure the adjusted EBITDA shows the business’s true financial performance. By identifying and validating these add-backs, we get a clearer picture of the company’s financial health. This process removes unusual items that can skew earnings.

Identifying these add-backs helps smooth out earnings swings, giving a more stable basis for valuation. Working with merger and acquisition experts ensures these factors are correct. This maximizes the market value of your manufacturing business.

Key Terms to Know in Business Valuation

Learning important terms in business valuation is key to understanding how to value a manufacturing business. Not just this niche, they’re useful and relevant across majority of the business niches, like when appraising hair salons, gas stations, consulting business, grocery store, restaurants, etc.

“Earnings” mean the profit your business makes. “Adjusted EBITDA” is a key metric that adjusts net income for extra costs that don’t show the company’s true operations.

“SDE” (Seller’s Discretionary Earnings) includes the owner’s salary and benefits. Buyers like SDE because it shows the total financial gain they can get. Sellers often use EBITDA for a standard check-up. Multiples are also crucial, showing how much your Adjusted EBITDA is worth compared to others in your industry.

Add-backs are another big part of business valuation. These are extra costs that buyers might not have. Knowing about these add-backs can change how people see your business’s value. Getting these terms helps you figure out a fair asking price for your business, considering its special features and the market.

Understanding these key terms helps you move through the valuation process better. It sets you up for a successful and profitable deal.

How to Value a Manufacturing Business

Knowing how to value a manufacturing business means understanding the steps and key factors involved. By being systematic and thorough, you can get a strong valuation that matches the market. This process is essential for a fair and accurate assessment.

Steps to Determine Business Value

First, collect all the financial documents you need. This includes profit and loss statements and balance sheets from the last three years. Then, pick a valuation method that fits your business size and situation. Use Adjusted EBITDA and market multiples, which are usually between 4-8X for smaller manufacturers.

For top-performing companies, these multiples can go up to 10X or even 20X. Getting help from a professional can make your valuation more reliable.

Factors Influencing Your Business Valuation

Many things can affect how much your manufacturing business is worth. Important ones include:

• Financial performance like sales and earnings trends.
• Strong customer relationships, especially if they keep coming back and aren’t just a few big ones.
• Good leadership and clean finances usually mean higher valuations.
• High growth potential and key products also boost the value.
• Being bigger, with EBITDA over $10M, often means a higher valuation.

Other factors like production automation, intellectual property strength, and the competitive scene in your industry matter too. Paying attention to these can really help improve your business’s value and lead to a better valuation.

Equipment Valuation and Its Impact

It helps you see the value of your machinery, which can greatly change how much your business is worth. Keeping your machines in good shape can make your company seem more valuable, helping you in negotiations or when assessing your business.

When valuing equipment, you look at its age, condition, and how well it works. You also consider any problems with the equipment. Making sure you use the right methods to value your equipment gives you a clear picture of its importance to your business’s finances.

Here’s a look at different ways to value manufacturing equipment:

Choosing the right way to value your equipment depends on many things, like what kind of equipment it is, how often it’s used, and the data you have. Equipment that gets used a lot may lose value faster, changing its worth. Knowing the true value of your equipment helps you understand your assets better and their part in making things, which can affect your business’s overall value.

How NOT to Value a Manufacturing Business

When figuring out your manufacturing business’s value, it’s key to avoid simple mistakes. Using just “1X revenue plus inventory” can be misleading. This method doesn’t capture the full picture of profitability and market trends, making the valuation inaccurate.

Just looking at revenue can miss the importance of profit margins and economic strength. This can set wrong expectations for owners, leading to lower sale prices. Companies with strong customer ties and varied income streams usually get higher valuations. Overlooking these can result in undervaluing your business, especially if you depend on one customer or sector.

Checking how your business runs and the state of its equipment is crucial. Without clear standard operating procedures (SOPs), buyers might be hesitant to pay a good price. Also, neglecting equipment maintenance can lower your business’s value, especially in competitive markets.

Good financial records are key to a correct business valuation. A clear history of income statements and balance sheets shows strong management. Poor records can cause confusion and lead to a wrong valuation.

In summary, it’s vital to know and avoid common mistakes in valuing your manufacturing business. Use the right metrics, keep detailed records, and value strong customer ties for better sales outcomes.

Find the True Value of Your Manufacturing Business Today!

Explore opportunities for growth, investment, sale, and more, with our expert manufacturing business valuation services.

Book A free Consultation

Conclusion

Valuing a manufacturing business is a complex yet crucial task that influences major decisions such as selling, investing, or strategic planning. Our blog delves into essential valuation methods, industry-specific factors, and the importance of accurate financial assessment.

At Arrowfish Consulting, led by experienced professionals like myself. we specialize in providing meticulous business valuations and economic analysis. With expertise in diverse sectors and extensive experience in complex valuation scenarios, we ensure our clients receive precise and actionable insights.

Feel free to reach out to our team for a free consultation, and let’s see if we can help you out.

Jeremiah Grant

Jeremiah Grant is the Managing Partner of Arrowfish Consulting. In addition to acting as a primary liaison for many of the firm’s engagements, He primarily focuses on business valuation and economic damages expert witness assignments, in addition to forensic accounting and insurance claims analysis.

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