Understanding Firm Value
Value really, truly is in the eye of the beholder. If you can find someone who sees value in what your firm does, the clients you serve, your expertise, the markets you know, your leadership team, whatever it is, you’ll increase your value. But how do you know where to start?
Weighted average net service revenue is a helpful, simple rule of thumb metric.
What’s net service revenue? Net service revenue, or NSR, is gross revenue, less sub-consultants and pass-through expenses. In essence, this is the revenue that firms get to keep to operate. “Adjusted” net service revenue is simply changes to your net service revenue that would make the analysis helpful in an M&A discussion by making changes based on forward-looking revenue.
- If you’re in a real conversation with a buyer, do they have any services in-house that you currently subcontract out? Add that back to your adjusted net service revenue.
- Conversely, do you earn revenue through certifications (MBE/WBE/DBE) that a buyer wouldn’t be able to retain? Adjust the portion of your revenue that comes from these certifications out of your model.
- Have you added services over the last few years that you previously had to subcontract out? This may be an adjustment area too.
Is weighted net service revenue exactly what your firm is worth? Probably not. But looking back through our valuation surveys for years, this is the most stable metric that we track. Our research shows that the threshold for considering an external sale (versus finding an internal buyer through an ownership transition model) is 50% of net service revenue (NSR). Anything above that number is likely to be an offer that may be worth entertaining to sell the firm. The highest value that I have seen offered to a firm in the last couple of years is 90% of NSR, and the average is probably closer to 60% or 70%.
I’ve created an easy to use excel spreadsheet designed to give you a simple starting point to think through how someone could possibly approach valuing your firm. This model is oversimplified, there are hundreds of more complicated ways to review value – but here is one that you can complete in 30 seconds.
My advice is to make as few adjustments as you can to your NSR, and if you do make adjustments, create a “stress test” with multiple percentages to show various impacts and how that would change your firm’s value.
Contact me anytime if you have trouble using this tool, or simply want to talk about your firm’s value.
If you’re curious about driving value, creating a strategy, analyzing financial, internal and external ownership transitions, the best thing you can do is join us in San Diego for The Principals Academy. You can talk to experts on every single topic relating to managing an A/E Firm.
Jamie Claire Kiser
Director of Consulting