How To Value Your Ecommerce Business
There will come a time when you consider selling your ecommerce business and the first thing you will want to know is “What is my business worth?”. The ecommerce business brokers from Digital Exits have kindly written this post for brownpaper.com.au about how to value your business. The article gives a general overview of ecommerce valuations. If you are looking for a more accurate assessment of the value of your business I would suggest looking at their website valuation report.
Traditional business valuations can be broken down into the following methods:
- Asset Methodology – Book value or liquidation value methods
- Historical Earnings Methodology – including debt-paying ability, capitalization of earnings or cash flow and dividend-paying ability methods
- Comparable Sales Methodology – sale of similar businesses, industry rule of thumb, and p/e ratio methods
- Future Earnings Methodology– Discounted cash flows of the business
Generally a business valuation would use a discounted cash flow methodology, however because ecommerce businesses are slightly different to traditional, mainly their high reliance on goodwill, the accepted valuation method used is a multiple of earnings method. This uses the historical earnings of the business to determine a valuation. If you were going to categorise this valuation method in the above framework it would come under the historical earnings tab.
How the multiple of earnings valuation methodology works is that the net profit of a business is determined for the last twelve months. Then a multiple of that profit is applied (generally between 1.5 and 3.5 times) to determine the valuation. What multiplier is used is based on a number of factors about the business, most notably the level of risk for future earnings. Let’s use the example below to explain how the multiple of earnings valuation methodology works.
Let’s Use James Business
Eric (hypothetical real world example) has a website called Beard Brand where he sells beard oil products. The business is 4 years old and what started out, as a hobby is now a thriving successful business. The following financials are relevant to James business.
- Year 1 – Sales of $22,678 and profit of $1,088
- Year 2 – Sales of $59,831 and profit of $12,456
- Year 3 – Sales of $175,698 and profit of $49,736
- Year 4 – Sales of $350,128 and profit of $108,082
James business is reliant on a combination of traffic sources, namely 15% direct, 40% search, 25% paid and 20% referral websites. Most products are drop shipped from a reliable provider that has been working with James since day one.
Now because of the growth of the business, the diversification of traffic sources and stability of the supplier the multiple that would be applied to James business comes out at 3.1X. This means that his business is worth $334,000 ($108,082 multipled by 3.1 = $334,000)
Where does your site sit?
The following data shows some stats based on the analysis of 150 transactions of the value of ecommerce businesses. The below image represents the sales multiples paid for sites valued at different levels. How to interpret the graph is to take sites sold in each column and the average multiple paid. So for example let’s take the $75-$200k column. This is websites that sold for values between $75,000 and $200,000 the average multiple sold for ecommerce businesses (blue) was 2.4X and the average multiple that dropship based businesses sold for (red) was 2.2X. What his means is that if your business sold for $150,000 then on average you were making $68,181 in profit per year ($150,000 divided by 2.2). You can use this data to give yourself a rough valuation on what your business is worth depending on how much profit you are making.
How To Improve Valuation
- Sales – Diversified revenue decreases the risk of the business for a new buyer. That means multiple ways that they business earns money. This could mean different revenue types or selling multiple products.
- Traffic – A good range of traffic sources improves valuation. Just like the table analogy. If you take out more tan two legs of a table it will fall over.
- Payments – One of the biggest challenges we have is transfer recurring subscriptions through paypal with an online business make sure you have the right payment system that is a processor not paypay setup originally because this completely devalues a company.
Below are a handful of resources that I would also suggest checking out if you are interested in learning more about valuation of ecommerce businesses:
- What makes a million dollar ecommerce business
- Case study about selling an ecommerce business
- Tips on choosing a website broker when you sell
- Valuations when buying an ecommerce business
- Buyer who buys websites
Who Is the Best Business Broker To Sell My Ecommerce Business?
We recommend Digitalexits.com to sell your ecommerce business. They specialise in selling ecommerce businesses.