The electrical contracting industry was among those that experienced business disruption related to supply chain issues during the pandemic. This led to project delays and cancellations, ultimately affecting the overall workload of service contractors.
However, as the tide turned, this industry once again managed to bounce back, and service companies and electrical businesses started seeing new opportunities. Today, the U.S. Bureau of Labor Statistics expects the job growth in the electrical industry to come in around 5 percent from 2022 to 2032.
Since the market is doing well, this is the best opportunity for those looking to sell their electrical contracting business or are willing to know the worth of their company.
But when and how do you sell your electrical contracting business?
There are many factors that you need to take into account out of which getting the right valuation is the first step. A business valuation eases the process of merging, selling, or knowing the actual worth of your business.
Today's blog helps you know how to value an electrical contracting business and shares key factors influencing EC business valuation.
So, let’s get started.
How To Value Electrical Contracting Company?
Almost every business owner wants to know its business worth. When it comes to an electrical contracting company, you can't just rely on the market. A proper valuation is the key to determining the cost of your electrical contracting company.
However, the valuation process can be more complex and involves different factors.
There are many methods to calculate the valuation of an electrical contracting company. In this blog, Industrack shares the most common methods adopted industry-wide to evaluate businesses.
Business Valuation Methods for Electrical Contracting Business
To get a market price for your business, you must use one of the following three business valuation methods.
Method O1: Valuation Based on Income Approach (infographics)
This is one of the most common ways to know the worth of an electrical contracting business. It measures the earning potential of a company. In other words, it determines what is left after you pay your expenses.
This valuation is strongly based on the profitability of your business. It also assesses any risks associated with buying, selling, or expanding an electrical contractor company.
Income Approach Methods to Value an Electrical Company
There are several variations of the income approach method. However, generally, the two most common variation methods used for the income approach valuation are as follows:
Capitalization of Cash Flow Method
This is one of the most suitable methods for electrical companies with a long and stable history. To value an electrical company using the capitalization of cash flow method, business appraisers determine a reasonable amount of earnings over a period.
The earnings are then divided by the capitalization rate, which is used to calculate the reasonable rate of returns investors can expect from the business. The main calculation in the CCM (capitalized cash flow method) is
(Value of the Firm) = Free cashflow / WACC (Weighted Average Cost of Capital)
Discounted Cash Flow Method
Companies with a predictable future and a strong financial back can use the discounted cash flow method to value their business. However, although this method is less common in the industry, it still gives a predictable result when determining the value of an electrical contractor company. Keep in mind that results can be inaccurate since they are based on future cash flow predictions.
The discounted cashflow method works by projecting future earnings over a 3-5 year period. The valuation experts apply a discount rate to the earnings to get the results. The formula to calculate DCF is
DCF = CF1 / (1 + r) ^1 + CF2 / (1 + r) ^2 + CFn / (1 + r) ^n
Here
- CF1 stands for Cashflow for 1st year.
- CF2 stands for cash flow for 2nd year.
- CFn stands for cash flow for additional years.
- r stands for discount rates.
Method O2: Valuation Based on Market Approach
This is one of the most common methods used to provide valuation for electrical contractor businesses. In this method, business appraisers refer to the private transaction database to know the companies recently sold. They value your business based on similar businesses that have sold in recent times.
Valuation Multiples
When analyzing your company's valuation, the business appraisers work with valuation multiples. They are the financial ratios that evaluate the company's value and compare it with other businesses by comparing one financial metric to another. The valuation expert needs to apply the appropriate NAICS or SIC code. The key multiples used for electrical company valuation are as follows.
SDE Multiple
SDE multiple refers to the seller's discretionary earnings multiple, a common method in small business valuation. This method compares a company's seller's discretionary earnings to its implied value. To calculate a business SDE, a valuation specialist must find the company's earnings before income tax, depreciation, amortization, interest, owner's salary, and recurring expenses.
The specialist needs to use comparable sales data to get an accurate SDE multiple. The formula to calculate the SDE multiple is
SDE Multiple = Enterprise Value / Seller's Discretionary Earning
EBIDTA Multiple
EBITDA multiple is a financial ratio used to compare the enterprise value with its annual earnings before amortization, depreciation, taxes, and interest. This method helps valuation analysts to understand the return on investment an electrical company can expect to generate over the year. The formula for the EBITDA multiple is
EBITDA Multiple = Enterprise Value / Earnings Before Interest, Taxes, Depreciation, and Amortization
Factors Influencing EC Business Valuation
Now, once you are aware of the methods to evaluate the electrical contracting business, it's time to consider the factors that can have a major impact on your EC business valuation. So, what are they? Let's know below.
1. The Company Size & Profitability
The size of your company is directly linked to the number of employees you have and the revenue you generate. This is one of the top factors that influences your EC business. A small company that usually relies more on the owner will have less valuation than one in good financial and operational health. In other words, as the risk of operating a business reduces, the valuation increases.
2. Staff Qualifications
The major sign of stability in an electrical contracting firm is the low employee turnover rate. Business appraisers will be attracted to a fully trained and licensed staff that shows commitment and solid performance. Having a staff that goes above and beyond to accomplish their tasks can help you build a good reputation, which can ultimately increase your business worth.
3. Business Assets
Business assets are among the top factors that influence the business valuation of an electrical contractor company. These include vehicles, tools, and all your business's tangible assets. Moreover, business assets also include intangible items such as membership in an industry association, vendor relationships, customer lists, and brand presence.
4. Your Expertise
Electrical contractors operate in two main categories: residential and commercial. Residential models further divide into lucrative niches such as installing heating, lighting, or security systems in homes. Meanwhile, the commercial industries range from aeronautics to alternative energy and manufacturing. Depending on the trends, your niche will directly influence your business valuation.
Take The Next Step
Business valuation helps you to determine the overall worth of your business. But it doesn't mean you have to sell at any cost. If you plan to get an early exit, always try growing your business before you sell. You can work on improving the factors that influence business valuation to maximize your business growth.
