It is well known in the world of buying & selling companies that larger companies fetch larger multiples of earnings when they sell. The ultimate example of this is found in large public companies that often sell for breathtaking multiples of earnings.
Lower middle market companies (5 – 50 million revenue) usually sell for much higher multiples than their small business cousins with less than 5 million in revenue. Report after report proves this. Here’s the real reason the so-called “size-premium” exists.
Less risk: It is the nature of larger companies to be more diversified and therefore have less risk. Customer diversification, and lack of large customer concentrations are a notable example.
Larger companies tend to serve larger markets: Larger markets mean more growth opportunity. And buyers typically reward current growth, and the likelihood of future growth, with more attractive offers.
Management team vs. Owner-centric: A $10 million revenue company can afford, and has likely invested in, a management team. A smaller $2 million revenue company is likely to be more owner-centric and therefore less attractive to buyers.
Economies of Scale: Smaller companies often cannot afford the people, technology or equipment investments that help drive economies of scale.
There are many more examples like this that show its really about QUALITY of the company not just QUANTITY or size of the company. In this month’s Onward Newsletter, we share an example of this in our spotlight on the e-commerce industry. Note that drastic difference in multiples of earnings between the small e-commerce companies and the larger e-commerce companies.
See more on the e-commerce industry here