I had coffee with a business owner who wanted to know what kind of multiple he could get for his business.
He owns an ad agency and he had heard that marketing services businesses are going for between “four and five times,” by which he meant four to five times earnings before interest, taxes, depreciation and amortization (EBITDA).
The key question is, four or fives times what? Most business owners focus on the multiplier and spend less time on what they are multiplying. Some buyers will calculate their valuation by taking your last complete year and applying their multiple to your reported pre-tax earnings. Others will take a blend of your earnings from the past three years.
Another way to calculate a multiple is to base it on the current year's expected earnings. Buyers will also look at what you expect profits to be in the future.
Professional buyers will try to justify their offer to you using historical earnings while they rationalize the price to their board using your future expected earnings.
Each methodology can have a big impact on the price you get for your business. Let's say you're halfway through your fiscal year and on track to hit $800,000 in pre-tax profit this year. The last three years you did $500,000, $300,000, and $250,000 respectively.
Using a blended average of your historical profit over the past three years and applying a five-times multiple, your business is worth $1.75 million. Using this year's expected earnings, and applying the same five-times multiple, your value is $4 million — more than double.
To get prospective buyers to run a valuation based on your current year's earnings, show them that they can take your expectations for this year to the bank by:
• Ensuring the first part of your fiscal year (before you shop your company) exceeds your business plan.
• Demonstrating you have a sales funnel of solid deals for the balance of the year and into the next.
• Getting your customers to agree to long-term contracts.
• Hitting the monthly goals in your plan consistently while you're courting buyers and enduring due diligence.
Last year was a tough year for most business owners, but it doesn't have to delay your plans to sell.
Special to the Globe and Mail
John Warrillow is the author of Built To Sell: Turn Your Business Into One You Can Sell . Throughout his career as an entrepreneur, Mr. Warrillow has started and exited four companies. Most recently he transformed Warrillow & Co. from a boutique consultancy into a recurring revenue model subscription business, which he sold to The Corporate Executive Board in 2008. He is the author of Drilling for Gold and in 2008 was recognized by BtoB Magazine's “Who's Who” list as one of America's most influential business-to-business marketers.