Selling A Business...How To Value?

[BEAR]

Hey everyone,
I have reached a point in my plan to sell my current business and move on to a more fastlane business model.

Over the last 4.5 years I have built a successful flooring/construction company from nothing. It has provided my family a nice comfortable lifestyle, makes good profit, but it is still very much a JOB.

My out plan has always been to build it to sell at the 5 year mark, so I am starting to market it now.
The company is profitable and still very much growing. There is huge potential for someone that like to put in the hours, work non-stop, and live in the office or vehicle. We are in a very new and very demanding nitch market that is showing no signs of slowing down.

Here's the problem:
I have been having a hard time placing the proper value on it.
I consulted with my accountant first and he gave me too broad of a range
I consulted with internet "calculators", and received numbers on the high end of what I was thinking.
I had a business broker value the company and he was really low, lower than I think I would sell it for.

So, my question....
How do you determine a value/price when selling a company?

I really would like to hear from those that have sold companies prior and how they determined the value.

TIA

 

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[Gold777]

8-12x your monthly revenue.

 

[BEAR]

I understand that is one of the fast ways to get a quick value on a business, but....there are too many variables to just be that simple.

What about profit margins?
What about property (owned/rented)?
What about equipment/vehicles?
What about a comparable business recently listed or sold??

I know there are many factors in valuing a company but to undervalue it would be drastic, to overvalue would be a waist of time.

I have searched this forum and been a member for many years and have never seen this topic thoroughly covered

 

[BEAR]

In light of my prior post, lets examine two different business' numbers and please explain to me how to create a solid way to value a company.
They surely will not sell for the same price......right?

Company ABC:
Annual income___________________$500,000
Annual profits___________________$200,000 (pre-tax)
Equipment/Vehicles owned_________$100,000



Company XYZ:
Annual Income___________________$500,000
Annual profits____________________$75,000 (pre-tax)
Equipment/Vehicles owned__________$25,000


Comparable business' recently listed between $300,000 to $500,000.


You can see that although both companies annual sales are the same, the other factors differ very much.

Company XYZ obviously has higher product cost, wages, overhead, or just poor ($) management skills.

 

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[dochustle]

I just completed the sale of my landscaping company(similar industry).

Heres how I valued you:

Assets value at fair market: What I could get for an asset if put on craigslist or kijiji. For example I had bought a brand new ride on mower before deciding to sell for 3000, but I only valued it at 80 % of that due to the market value.

Contracts/customer list: This is the most valuable piece to the company and also toughest to value. How I did it was put the customers in 3 categories: A level customers, B level and C level. With the A level customers I guaranteed that these customers would return and I would personally call them to inform them of the transition. I valued these customers at 1 years projected profits.

B Level customers were customers who I wouldn't call personally but if they called me I would directly forward them to the new owner and recommend him profusely. I valued these customers at 1 years profits but only assuming that 1/2 of them would be retained.

C level customers were the same as B but value as if 1/3 of them would be retained.

This gave a fair valuation I believe and i'm not sure if this is how a typical valuation works or not! This was my first sale of a company and was a great experience. Hope any of this helped..

 

[biophase]

In light of my prior post, lets examine two different business' numbers and please explain to me how to create a solid way to value a company.
They surely will not sell for the same price......right?

Company ABC:
Annual income___________________$500,000
Annual profits___________________$200,000 (pre-tax)
Equipment/Vehicles owned_________$100,000

Company XYZ:
Annual Income___________________$500,000
Annual profits____________________$75,000 (pre-tax)
Equipment/Vehicles owned__________$25,000

It's different for every business, but I've seen most listed at 3x annual profits. So $600k for ABC and $225k for XYZ. Then you add the real estate value and assets. I assume that the profits is after you've paid yourself a normal salary?

 

[Rickson9]

In light of my prior post, lets examine two different business' numbers and please explain to me how to create a solid way to value a company.
They surely will not sell for the same price......right?

Company ABC:
Annual income___________________$500,000
Annual profits___________________$200,000 (pre-tax)
Equipment/Vehicles owned_________$100,000

Company XYZ:
Annual Income___________________$500,000
Annual profits____________________$75,000 (pre-tax)
Equipment/Vehicles owned__________$25,000

Comparable business' recently listed between $300,000 to $500,000.

You can see that although both companies annual sales are the same, the other factors differ very much.

Company XYZ obviously has higher product cost, wages, overhead, or just poor ($) management skills.

If I were to be buying a company I would be looking at a lot of things, but to keep things simple, I will tell you what I would be thinking with the numbers provided.

Assumptions
1. no debt, no goodwill (i.e. assets = equity)
2. profit pays for all salaries (including your own; i.e. no outstanding expenses)
3. all profits will be poured back into the business to grow at the same rate given
4. inventory/customer "turns" are identical
5. assets = equity = enterprise value

Thought 1

Company XYZ strikes me immediately as having a very high return on assets/equity (assuming no debt). Return on assets is a phenomenal 300%. Company ABC has a very respectable return on assets/equity of 200%. Both would be the envy of the corporate world. Unfortunately return on assets don't scale well with size, but that's another story.

Return on assets is important because it means that for every incremental dollar added to the business, there will be a corresponding $3 (for Company XYZ) and $2 (for Company ABC) in profits. This is important when one is thinking about how fast a business is growing.

Thought 2

The question that comes to my mind when seeing a 1) bigger/slower growing business vs. 2) smaller/faster growing business is to determine at what point the smaller company becomes as big as the bigger company. Assuming that the growth can be maintained for many many years (a big assumption), how many years would it take Company XYZ (worth $25k growing at 300%) to become equivalent equity-wise to Company ABC (worth $100k growing at 200%). Using a simple spreadsheet it would take approximately 5 years and the growth would look something like this:

Company XYZ
$25,000
$75,000
$225,000
$675,000
$2,025,000

Company ABC
$100,000
$200,000
$400,000
$800,000
$1,600,000

The likelihood of a company growing at 300% (or even 200% for that matter) for 5 years is unlikely (possible, but unlikely). Again, it depends on the business (and the entrepreneur behind it). Thus, I would want a 'catch up' time to be short. In this case, it takes Company XYZ approximately 5 years to 'beat' Company ABC.

Also, if I'm not willing to wait 5 years, then this calculation would immediately tell me that I am not interested in the smaller/faster XYZ company growing at a faster rate UNLESS XYZ is priced at a discount to the bigger/slower ABC company.

Thought 3

Unless I have a huge ego and think that I can grow this business as well (or better than) the founder. I would get rid of him/her. Personally I would see if I could buy the business and keep the founder on board running things and work out some kind of profit-sharing going forward. Sometimes this is possible, sometimes it is not.

I'm more likely to try and negotiate this with Company ABC moreso than Company XYZ.

Thought 4

Company ABC has an operating margin of 40% and Company XYZ has an operating margin of 15%. This is a massive difference. In general, operating margins are an indicator of how resilient a business is from competition, inflation, and general economic conditions. In this case, Company ABC is heads and shoulders better than Company XYZ. Again, ABC is more desirable UNLESS XYZ is priced at a discount to ABC.

Thought 5

Company ABC
- great profit
- great profit margin
- lower return on deployed capital (equity)

Company XYZ
- poor profit
- poor profit margin
- high return on deployed capital (equity)

As an investor I know that I need to buy a privately owned business at 2x profit (1x revenue) or 1x book in order to have any sort of a decent return on my capital.

For Company ABC this means that I would pay somewhere in the range of $400k.
For Company XYZ this means that I would pay somewhere in the range of $150k.

In short, the awesome rate of return on deployed capital is not enough to offset the poor profit and poor margins and thus translate to a lower value for Company XYZ in my eyes.

 

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[PatrickP]

If I were to be buying a company I would be looking at a lot of things, but to keep things simple, I will tell you what I would be thinking with the numbers provided.

Assumptions
1. no debt, no goodwill (i.e. assets = equity)
2. profit pays for all salaries (including your own; i.e. no outstanding expenses)
3. all profits will be poured back into the business to grow at the same rate given
4. inventory/customer "turns" are identical
5. assets = equity = enterprise value

Thought 1

Company XYZ strikes me immediately as having a very high return on assets/equity (assuming no debt). Return on assets is a phenomenal 300%. Company ABC has a very respectable return on assets/equity of 200%. Both would be the envy of the corporate world. Unfortunately return on assets don't scale well with size, but that's another story.

Return on assets is important because it means that for every incremental dollar added to the business, there will be a corresponding $3 (for Company XYZ) and $2 (for Company ABC) in profits. This is important when one is thinking about how fast a business is growing.

Thought 2

The question that comes to my mind when seeing a 1) bigger/slower growing business vs. 2) smaller/faster growing business is to determine at what point the smaller company becomes as big as the bigger company. Assuming that the growth can be maintained for many many years (a big assumption), how many years would it take Company XYZ (worth $25k growing at 300%) to become equivalent equity-wise to Company ABC (worth $100k growing at 200%). Using a simple spreadsheet it would take approximately 5 years and the growth would look something like this:

Company XYZ
$25,000
$75,000
$225,000
$675,000
$2,025,000

Company ABC
$100,000
$200,000
$400,000
$800,000
$1,600,000

The likelihood of a company growing at 300% (or even 200% for that matter) for 5 years is unlikely (possible, but unlikely). Again, it depends on the business (and the entrepreneur behind it). Thus, I would want a 'catch up' time to be short. In this case, it takes Company XYZ approximately 5 years to 'beat' Company ABC.

Also, if I'm not willing to wait 5 years, then this calculation would immediately tell me that I am not interested in the smaller/faster XYZ company growing at a faster rate UNLESS XYZ is priced at a discount to the bigger/slower ABC company.

Thought 3

Unless I have a huge ego and think that I can grow this business as well (or better than) the founder. I would get rid of him/her. Personally I would see if I could buy the business and keep the founder on board running things and work out some kind of profit-sharing going forward. Sometimes this is possible, sometimes it is not.

I'm more likely to try and negotiate this with Company ABC moreso than Company XYZ.

Thought 4

Company ABC has an operating margin of 40% and Company XYZ has an operating margin of 15%. This is a massive difference. In general, operating margins are an indicator of how resilient a business is from competition, inflation, and general economic conditions. In this case, Company ABC is heads and shoulders better than Company XYZ. Again, ABC is more desirable UNLESS XYZ is priced at a discount to ABC.

Thought 5

Company ABC
- great profit
- great profit margin
- lower return on deployed capital (equity)

Company XYZ
- poor profit
- poor profit margin
- high return on deployed capital (equity)

As an investor I know that I need to buy a privately owned business at 2x profit (1x revenue) or 1x book in order to have any sort of a decent return on my capital.

For Company ABC this means that I would pay somewhere in the range of $400k.
For Company XYZ this means that I would pay somewhere in the range of $150k.

In short, the awesome rate of return on deployed capital is not enough to offset the poor profit and poor margins and thus translate to a lower value for Company XYZ in my eyes.

So in others words a multiple of 2 as opposed to 3 as the other poster above suggested.

 

[Rickson9]

So in others words a multiple of 2 as opposed to 3 as the other poster above suggested.

You got it. For better or worse the OP stated that he doesn't like simple answers so - ta da!

 

[PatrickP]

Anyone who has a business for sale that is willing to take 2 times net earnings PLEASE send me a PM.

 

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[EastWind]

Honestly, no one knows your business as well as you do. You know all the variables. Work it out.

 

[Rickson9]

Anyone who has a business for sale that is willing to take 2 times net earnings PLEASE send me a PM.

You should contact the OP!

Company ABC:
Annual income___________________$500,000
Annual profits___________________$200,000 (pre-tax)
Equipment/Vehicles owned_________$100,000

Company XYZ:
Annual Income___________________$500,000
Annual profits____________________$75,000 (pre-tax)
Equipment/Vehicles owned__________$25,000

Comparable business' recently listed between $300,000 to $500,000.