How do you value a business?
People often ask us how you can determine your business value. Our first reply often is: it’s ‘what the fool will give for it’.
While this is a solid method with a clear vision, we do understand that this answer may fall short. In this blogpost, No Monkey Business shares a number of tips so you can properly determine your company’s business value.
We give you an insight into the market averages, explain our ‘what the fool will pay for it’ method and discuss frequently used business valuation methods, such as Adjusted Present Value and the Goodwill method.
Indicative valuation based on market averages
Let’s start with some market averages. This will give you an indicative idea of your company’s business value. The method is very simple. Take the average gross profit (EBITDA) of the past three years and multiply this figure with a multiple.
In its annual Acquisitions Barometer, Brookz offers an insight into the average multiples for The Netherlands. The average multiple in the MKB is 4.9. Applying this multiple to an average gross profit of €200,000, for example, will give you an indicative valuation of €980,000.
But don’t be too overconfident. The average value is different for every sector. Media & Communications companies apply an average of 4.6, whereas the IT & Online sector is an outlier, with 6.1.
The downside of this indicative valuation is that it pays no attention to a company’s potential. And this just happens to be one of the first factors a buyer will look at.
Low EBITDA? No problem!
You often read that companies that make next to no or no profit at all are sold for huge amounts. How is this possible? Well, these companies have huge potential for the future. Because they invested – often in view of growth – the EBITDA of the past three years does not reflect this. This may be a conscious choice.
In that case, it’s crucial that you work with financial forecasts for the next five years. A potential buyer will immediately have an idea of how long it will take to recoup his investment. This Adjusted Present Value valuation method takes the company’s future financial performance in the form of free cash flows into account.
Do you want to increase the buyer’s trust even more? Then draft different scenarios, including a pessimistic and a realistic one. By doing this, you show a future buyer that you’re not selling a mirage, but that you’ve taught about everything, even the negative aspects. Finally, you can also draw up an optimistic scenario, as a third option. This is especially useful if you intend to stay on board for a few more years after the sale.
Tip: Use historical figures where possible. You can use market averages, if necessary, which are publicly available. This documentation only increases the buyer’s level of trust.
The ‘What a fool will pay for it’ method
The recent newspaper headlines confirm that the ‘What a fool will pay for it’ method is more successful than ever.
- “Dutch software company sold for 21 million”
- “Amsterdam-based software company sold for 80 million USD”
- “Siemens pays 600 million for a Rotterdam-based software company”
These are just a few examples where buyers paid multiples of 20x EBITDA! But how to pull this off?
Let the buyers do the bidding
The answer is simple: let the buyers do the bidding. We recommend carefully managing this process. You cannot approach every business contact and their mother.
You start by drawing up a long list of potential buyers that would stand to benefit from the sale of your company. These are often are strategic buyers. These are companies that can increase their market potential with your product or service. Companies for whom your solution might be the missing link for further growth.
This is how our founder, Martijn van der Hoeden, tackled the sale of his own company, Assistance Software. He approached his long list with an investment memorandum and a financial forecast.
Every potential buyer got the opportunity to make a first offer based on this information. Martijn made an inventory of the price, the overall terms and conditions, and the next steps. He then put together a short list based on the responses and met with the potential buyers.
Martijn ended up successfully selling his company to Unit4
Tip: If you do apply this method, then do consider using NDAs. You don’t want potential buyers to walk off with your business information after all!
Other business valuation methods
There are many other tried and tested business valuation methods. Such as valuation based on the intrinsic value, profitability value, the Goodwill method or the Discounted cash flow method.
A word of caution, however. Ask three different people to value your business and they will arrive at completely different outcomes using different methods.
If you decide to have an official valuation done, then choose a specific method yourself. Have someone advise you which method best suits your business model. And it doesn’t come cheap, of course. An official valuation will set you back €5K to 15K.
Moreover, buyers like to carry out their own valuation. It’s worth asking yourself whether such a valuation creates any added value in that case.
Don’t put up a ‘for sale’ sign in your garden right away
On a final note, it’s worth remembering that you can play a key role, as an entrepreneur, in increasing business value. If you put a ‘for sale’ sign in your garden today, we can guarantee that you will not get the best price for your business.
Think about your exit well in advance and take the time to prepare for it. To help you, we have listed 15 tips that will potentially help you increase your company’s business value. These are crucial factors for potential investors.
We also recommend reading our 4 Step Exit Program®. This program shows how you can enter the market well-prepared. Ask for help! We all sold our own company. And we all experienced first-hand that a mentor/coach ensures you take the right steps.
You only have one chance to sell your company. Make the most of it!