The e hustle 40: Here's what your business is really worth.

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It's likely that a successful business is going to be the biggest, most valuable asset you ever own.

A question that comes up a lot is how to value an online business.

It's pretty simply really.

While there's no hard and fast rule, the average, growing profitable ecommerce business that I see sells for 5 x EBITDA (earnings before interest, taxes, depreciation and amortisation).

But what really drives the value of a business, is how many people are lining up to buy it. 

People aren't lining up to buy unprofitable businesses. 

At the very core of the metric or term used to determine the baseline performance of a business, is EBITDA - in simple terms, profit.

Valuations based on revenue are commonplace in tech, and when preparing for an IPO, but for your average punter, they care about profit. 

There's a common situation that occurs when you're trying to raise capital in ecommerce, or sell your business, that its this.

You're not profitable or have very low profit.

By nature, you need the cash, so right off the bat, you're in a position of weakness. Let's not forget that a the lower the profit, the less cash you're likely to have available to continue, or grow your business. Straight away low profit is a warning sign for a potential buyer.

When you're desperate, you get the worst kind of investor, or buyer (I know, I've been there). One that drags the process on, gradually lowering their initial valuation of your business, picking away at every little thing, deliberately dragging their feet because they know you're not likely to have any other buyers. Eventually you're so desperate for the cash, or you can't actually keep your business going, that you succumb to a terrible deal.

You're highly profitable.

Here I think the sweet spot is north of a 20% net profit, and banking at least $3m per year in profit. Of course smaller businesses can sell for great money too, but $3m and above is where I've seen private equity come to the table in a serious way.

Once you hit those levels, you can be sure that you don't have to advertise the fact that you're selling - people will come knocking. 

When you're highly profitable, it means any potential buyer is going to decrease the time that it takes to earn a payback on their investment, and that the business is likely to spin off dividends that an investor can use to invest in other assets. 

But in simple terms, what happens is that more people line up to negotiate with you. At the end of the day, the value of your business is simply whatever someone is prepared to pay for it - no different to selling your house.

If you sell your house and only 2 people turn up to the auction, the buyer knows they don't have to offer too much. If you sell your house and 50 people turn up to the auction, you know that you're likely to have bidders driving up the value.

The principal is simple. Make your business as attractive as possible, and the value will increase.

The days of silly valuations are finished.

During the ecommerce boom of the global pandemic known as covid-19, ecommerce businesses were selling for silly numbers, and some of those success stories have turned into disasters for investors. 

All over the world, businesses turning over tens of millions of dollars, if not hundreds of millions of dollars a year have gone into administration, and ended up either selling for peanuts, or closing down because they can't even find a buyer. This well and truly puts an end to the myth that you can be unprofitable and sell for a fortune. You will be lucky to sell at all, and if you do, you'll be lucky to pay back the losses that you've incurred along the way.

 If you're a non-profitable business owner that's been struggling to enjoy your business, or you've been living off tiny wages while you slug it out, praying for a big pay day, it simply won't happen unless you make changes.

If you're running a profitable business, even if you aren't enjoying it, at least you have the comfort of knowing that when you've had enough, you can easily sell it.

As a quick exercise, take your last 12 months net profit and multiply it by 5. That's your rough sell price. If that number doesn't look good, don't bury your head in the sand - change it.

If you need help with your profitability, reply to this email.

Until next week,

Paul

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