11.06.2008 — The potential acquisition value of a typical residential integration company has dropped 20 percent since the banking crisis hit the United States, and lending credit may remain tight for two years.

Those depressing tidbits were presented by John Mack of Imperial Capital during the CE Pro 100 Integrators Summit at EHX Fall 2008.

Mack says the average price paid for a CE pro company is likely to be around 4x to 6x cash flow or earnings before interest, taxes, depreciation and amortization (EBITDA).

That is compared to an average of 8.3x EBITDA being paid during the summer.

Not only has the tightening credit affected the ability of possible buyers to borrow money to finance a purchase, but the stocks of major CE retailers who have made acquisitions in the past have fallen dramatically.

Tweeter is already in bankruptcy, Circuit City is closing 155 stores and might be heading for bankruptcy. Even the 800-pound gorilla — Best Buy — has seen its stock fall 45 percent from its 52-week high. It's trading at just 4.8x EBITDA.

"So Best Buy certainly is not going to be buying anybody for a lot of money while its own stock is so low," says Mack.

"Right now is the equivalent of a nuclear winter in banking," he says. "The banking industry is sending a signal to see if it's OK to start lending again."

He adds that while the stock market may recover in 2009, he believes consumer spending will not return for two years, saying it will be "tough sledding."

He does note, however, that consumer electronics spending is among the economy's bright spots with spending still slightly growing.

Mack offers these keys to creating value for your installation business:

1. Differentiate your company
2. Strong customer service is critical, including getting more from existing clients
3. Managing costs in a down economy is key
4. Focusing on higher margin products will help
5. Diversifying your business, such as offering data networking services
6. Product exclusivity from vendors will help you gain an edge and better terms
7. Retrofits/existing homes is a good focus

He adds these 8 items as the keys to valuating your company (in order of importance):

1. Cash flow/EBITDA
2. Profit margins
3. Growth rate and attractiveness of your market segments
4. Stability of future cash flow (that can be obtained from recurring monthly revenue)
5. Potential synergies and cost saving for the acquiring company
6. Management team and workforce sophistication
7. Add-on service and recurring revenue
8. Complete management team in place

"For every company I have ever been involved with, cash flow is ultimately what we focused on," he says.

"Demonstrating recurring revenue is the key. People will pay a lot of money to have your installation services on call 24/7 to help them with their PC networks or TVs."

Mack still sees significant barriers to consolidation in the custom electronics industry. He says the proprietary nature of individual systems makes it difficult for a buyer, unlike the rollups that have occurred in security, pest control or lawn care control.

"There's a reason we haven't seen Best Buy back in the M&A market with a custom company since Audiovisions several years ago."