Once again, we have received an email from a Business Owner telling us how much Revenue he is earning per year and how much he pockets, then asking us how much his business is worth. Friends, it just ain’t that simple! There are a lot of issues that go into the Buyer’s psychology in buying a business, and a major portion of it is Profitability. But there are a tremendous number of other considerations, as well.

But staying with Profitability for just a moment, the Profit that the Seller says he/she is reporting on his/her tax forms are unquestionably not the entire picture. There are any number of adjustments that can and should legitimately be made in most businesses, that add to the bottom line from the Buyer’s perspective. These are things that we need to examine, prior to rendering any kind of a decision on estimating the Price. It does not take weeks or months to make such a pricing estimation, but it is also not something that can be responsibly done on the basis of a three line email.

Every Seller seems to want a “quick and dirty” pricing estimate. Frequently, even some of the more amateurish Brokers will lean on multiples of Profit or Cash Flow. This might be fine for casual discussion, but it is an approach that quickly and frequently breaks down, providing misleading results for many, many businesses. One of the big problems is that the multiples change from industry to industry. Another is the nature of the relationship that the business has with its clientele, which can increase or decrease the multiples utilized, even within a given industry.

Moreover, even if one insists on solely utilizing some sort of multiple, there are a huge number of additional, less tangible factors that come into play. The following is a list of only some, emphasize S-O-M-E of these intangibles:

  • The number of years that the business has been open is a mammoth consideration. The SBA will frequently not even entertain thoughts of financing an acquisition unless there are three (3) years of tax returns filed on behalf of the business. The reason for this is that many businesses go through a “honeymoon” phase, where the operation can be doing extremely well for the first 18 months, and then sales fall appreciably, thereafter. Below three years of experience, the Price can frequently compared to other businesses of similar size, but with greater maturity. And in some industries, the longer the business has been operational and Profitable, the higher the Price expectation may be, even past the three-year threshold. E-commerce is an example of one such type of business.
  • Consistent performance and growth is a huge factor. When a business goes down even marginally, we will often hear the Sellers say that it was a “blip”, or temporary decline that will be quickly overcome. Frankly, the Buyer and the bank do not want to hear that. They want to see proof. That “blip” may be just what the Seller says it is. But the Buyer and bank take the perspective that for all they know, that “blip” may be just the start of a long-term erosion in Revenue and Profit, which could well bury the business. Some Sellers tell us they do not want to sell because their businesses are doing too well. Our response to that is that this is exactly when you want to sell! This is the point at which you can get your highest Price. Buyers want to buy a consistent, if not growing business entity. They certainly do not want to buy a company that is in its death throes, or at least struggling. And if they do, they are absolutely not paying top dollar for such an acquisition. More typically, Buyers will want to know that they are purchasing a company that is not only growing by itself, but is part of an overall industry that is expanding and growing.
  • Customer loyalty is something that Buyers could or should be looking for. This is often evidenced by repeat purchases or customer referrals. Keeping a tracking mechanism of some sort is usually worthwhile.
  • There is no such thing as a “recession proof” business. But Buyers will want to see proof that the business has few, negative influences caused by outside factors. As an example, an e-commerce business needs to demonstrate that it did not suffer broadly if and when Google updates occurred.
  • One of the most critical issues to any Buyer or lender is the involvement of the current Owner, and the confidence that the business can continue to operate once that Owner has departed. Businesses where the Owner makes all the decisions and is “the face of the business”, carry a tremendous amount of liability with them, and their pricing suffers as a result.
  • The Seller should be able to demonstrate what, if any growth opportunities lie ahead and briefly, how they might be captured. Frequently, the intelligent Buyer wants to make sure that he/she is buying a long-term investment, rather than just a job.
  • Excellent relationships with suppliers can be important. Written contracts with such suppliers are also preferred.
  • Depending upon the business, written contracts with Buyers, maintenance agreements and similar instruments that can work toward guaranteeing a certain amount of income will absolutely enhance the Price.
  • Profit margins, compared to the industry standard or other competitors can and should be examined. We are dealing with one business right now that, for the purpose of generating market share, has a 20% lower Profit margin than the industry, as a whole. Anyone that is studying the business sector as part of the due diligence process understands this, and has consistently stayed away from making offers at the level the Owner has arbitrarily set as a threshold.

As a Seller, these of some of the things to which you need to be extremely sensitive. These are the kinds of things that will add to or detract from the kind of pricing that you can anticipate. But they also impact the speed with which the business can be sold and whether you will ultimately receive terms that are to your benefit, in order to receive the maximum in return on your own investment.

(The BAF Group LLC is a full service Business Brokerage, with a history of more than a decade of service. Its Principal Broker possesses 25+ years of Business Sales and Divestiture. Although most of our work is involved in the Mid-Atlantic States, we have represented Sellers and Buyers throughout the Continental USA, and a number of overseas Buyers, as well. Some of our listings and additional information about us can be viewed at www.bafgroup.com. Or, you may contact us at combroker@bafgroup.com. Thank you for your interest.)

Advertisements