Every now and then I get an email with the subject line: Quick question.
Then, the body of the email contains a short question that may require a long answer. Here’s one: “Ellen, I want to sell my business. What is it worth?”
Good question, right? You could spend a lifetime discovering the answer.
In this column, I’ll provide a few basics about how to create a company worth buying, along with some valuation approaches. Hopefully, it will inspire you to learn more.
Generally speaking, buyers are looking for a turnkey way to add profits and cash to their business empire. So, consider how you can make your company fit that simple criteria.
• Get your financial house in order. Clean up the balance sheet and the profit and loss statement, and get rid of the weird items that inevitably crop up.
• Put the systems in place. Write the manuals. Train on them, and hold team members accountable.
• Generate profits and cash. Put a budget together and plan for a generous profit. Raise your prices as needed. Upgrade your marketing messages and sales systems.
It is possible to create a turnkey, profitable, cash-flowing company. However, few business owners do it – and very few create a company worth buying. I encourage you to be one of the few. Build it, and perhaps sell it, for a lot of money.
Traditional valuation
How much? Let’s jump into a traditional valuation approach.
EBITDA stands for earnings before interest, taxes, depreciation and amortization.
One way to value a company is to review its earnings, i.e. profits, over a few years. Start with the earnings, and add the amounts expensed for interest, taxes, depreciation and amortization.
The more profits you consistently and predictably generate, the more your company is worth. The multiplier is a bigger number if:
• You collect those profits in cash. A long and aging list of accounts receivable will reduce the multiplier.
• The financials are right and tidy. The balance sheet is healthy. The assets are a debt-to-equity ratio of 2-1 or better.
• You are trending up. Your sales and profits are getting bigger.
• Your market area is compelling. For instance, a buyer is taking a competitor off the chess board or a franchisor wants to move into your market.
• Your team is awesome and it looks like they may want to stay on with the new owner. Note: You don’t buy or sell people. Watch your words.
So, by way of a very simple example: You have a company with all criteria described above. You have demonstrated an average of $5 million in sales and $1 million in EBITDA over the last few years. Using a multiplier of five, you may sell your company for $5 million. The buyer may offer a combination of cash and stock in the merged company.
The reality is that your company is worth what someone will pay for it. As a rule of thumb, investors and consolidators are looking for bigger companies and will use some version of an earnings-based valuation formula. Other companies, or competitors, will make an offer based on what they want that you have or what they can afford. Or maybe even what you ask for.
Alternative valuation
Alternative valuations include calculating a selling price based on:
• percentage of future sales;
• percentage of current sales;
• lump sum for fixed assets (buy your trucks);
• pay down of your debt; and
• lump sum for your phone number and website.
So, to summarize: Build a company worth buying. Turnkey. Cash. Profits.
Study up to learn the lingo and the different approaches for placing a value, a price, on your company.
