When so many factors go into determining a company's worth, where should business leaders focus?

To a certain extent, the answer depends on the particular club, but the following 10 suggestions are helpful ways to increase the value of nearly any business.

The following is a summarization of an education session from the 2015 IHRSA Convention, produced with full permission from IHRSA. The full-length video is available for purchase at ihrsastore.com.

About the Speaker

David Hardy has been in the fitness industry for over fifteen years and is the President of Franvest Capital Partners, a private investment firm that primarily invests in companies with a focus on fitness and healthy living. He is a partner at OrangeTheory Fitness, the President of World Health Edmonton, and the President of Fresh Fit Foods. Hardy identifies that the fitness industry continues to grow exponentially and states, “it is not a fitness industry, [but] a finance industry.” He presents a comprehensive guide focused on increasing the value of fitness businesses.

Business Valuation Principles

There are two components to the idea of worth in a fitness business: the market value of a company’s assets and the company’s overall earnings, or the earnings before interest, taxes, depreciation, and amortization (EBITDA).

An appraisal of a company’s EBITDA ultimately provides a potential buyer with visibility regarding the rate of return on their investment. Real estate value is a factor of a business but is separate from the value of the business as a whole.

Factors Affecting Earnings Multiples

Industry Trends

The industry has begun to attract investors working to take fitness clubs public again.

Private equity in the industry is becoming prevalent with buyers who are primarily looking for good cash flow investments. The dominant trends in the fitness business industry have a high impact on a company’s EBITDA multiples.

Industry trends have shown that the fitness industry is financially predictable. This predictability affords a level of confidence banks look for when lending to buyers.

Economy

Economic considerations, such as the unemployment rate, greatly affect how buyers value fitness businesses. High unemployment rates change the industry’s landscape as consumer confidence levels fall and business begins to suffer a lack of clientele.

Location

The location of a business will affect EBITDA multiples. EBITDA multiples for a fitness club in New York City will generally be higher than those for a fitness club in Oklahoma.

Leverage and Financing

Fitness clubs require cash flow lending, which creates reluctance from lending banks. Traditionally, for smaller clubs, cash flow loans will provide roughly one or two times the club’s EBITDA for financing. There are instances where banks will finance up to four times a club’s EBITDA.

Being primarily asset lenders, banks often do not understand the value of the recurring cash flow of a fitness business. Hardy suggests utilizing the publications of the International Racquet, Health and Sportsclub Association (IRHSA) to educate lenders and investors about the value of fitness businesses.

Synergistic Buyers for Maximum Compensation

Sellers should look for synergistic buyers to enhance compensation for a business.

Strategic buyers affect earnings multiples. These are groups who may find higher value in a business by taking full advantage of cost or operations synergies.

Determining Adjusted EBITDA Industry Standards

The current industry standards for earnings multiples range from four to seven times EBITDA.

These factors can be misleading, especially for low margin businesses. This calculation fails to take capital expenditures, such as business equipment and equipment upgrades, into account. Also, when considering a company’s EBITDA, club level EBITDA is separate from overall EBITDA. There have been anomalies where earnings multiples have increased to twelve or thirteen times EBITDA, but these cases often include ancillary costs, such as real estate.

When acquiring a fitness club or a chain of fitness businesses, buyers do not usually look at the EBITDA multiples as a valuation starting point. Instead, they tend to place value on the company’s net earnings in addition to the overall amount of capital investment the business will require. A company’s EBITDA might be considered in the final stages of acquisition. The important consideration for buyers is the leverage available from the banks, which ultimately dictates the rate of their return.

10 Ways to Increase Business Value

Despite the complex nature of determining a business's value, the following 10 factors are guaranteed to have a significant effect:

Dues vs. Paid-in-Full Members

The number of dues or month- to-month members vastly increases value in a fitness business. Unlike members who pay up front and in full, dues members tend to have a longer lifetime value, and in turn have a high impact on a company’s EBITDA multiples. Buyers are more likely to pay for customers who have longer commitment terms.

Additional Profit Centers

Ancillary profit centers are becoming increasingly more important within the fitness industry. Personal training provides up to 30 percent of a club's gross revenue. Juice bars, nutrition programs, and group training are additional profit centers, which can increase business value by a considerable amount.

Branding

Branding contributes immensely to the value of a business. EBITDA multiples have been shown to be higher for companies with a strong brand. A strong brand encapsulates the goodwill of the business, which carries considerable weight for buyers.

Well-Maintained Leases

Buyers tend to look for consistent and predictable cash flows in the businesses they acquire. Longer leases offer buyers security and predictability, which translates to a higher multiple for a company.

Technology and Systems

Naturally, a buyer is likely to pay more for a business that is well run. Technology and business systems can have the effect of lowering labor costs and raising profit margins. This ultimately raises the company’s EBITDA and value. One dollar saved through a good technology system will yield five dollars in the sale price of a company, which translates to five times the EBITDA value.

Successful Management

A predictable cash flow is one of the most important elements buyers look for in a potential business. Businesses with well-trained management provide more predictability and offer increased value to buyers. A strong management team is essential to generate the consistency that buyers seek.

Documentation

A well organized and documented business offers potential buyers comfort. The more comfortable a buyer feels, the more likely the potential buyer will pay a higher price for the business. Hardy suggests engaging a broker to appraise the business documentation and to advise on any steps that can be taken to better organize and secure the business. It is good practice to document all processes and policies in a business.

Equipment and Maintenance

In the fitness industry, a large amount of a business’s cash flow is generated solely by the club’s fitness equipment. Well-maintained facilities and equipment increase business value by a considerable amount. A buyer will be more inclined to pay more for a club with equipment and facilities that are in good condition. Deficiencies in maintenance of equipment are usually deducted from the purchase price.

Companies are now using technology to track and monitor their club maintenance systems. Maintenance Connection is a program that allows fitness club owners, as well as potential buyers, to view the state of the club’s equipment at any time, which in turn provides buyers with a degree of security.

Best Practices

Learn best business practices from other noncompetitive clubs, fitness publications, and industry roundtables. A well-run business is worth more to potential buyers.

Networking

Networking increases a business’s value. Attending industry events and conventions, volunteering within the industry, and building relationships with peers all play a role in increasing the value of a business.

As you can see, there are many factors that contribute to the value of a company. Business leaders should always be on the lookout for ways they can improve and should do their best to educate and inspire their staff to provide excellent service. Businesses that focus on improving themselves in the above ways should see a return on the time and effort they've invested and, ultimately, enjoy more success.