Pricing a Business for Sale is More Than Just Numbers
Entrepreneurs are putting up their business for sale for various reasons. But for whatever reasons it may be, at the back of their mind, they will be asking this: How much is my business worth? Most entrepreneurs would think highly of their business worth. Hence their estimate is usually high. But, let’s be honest. It is a wild card if anyone would buy a business at any given price. So, to be sure than sorry, here are few points to heed before you start tagging a figure to your business.
1: Financial Statements
Throughout your business span, you only keep bits and pieces of trade transactions, records and everything else in a drawer cabinet. If you intend to sell your business, it is time to straighten things up. You should at least have three years’ worth of formal financial records. Your financial statements must be in order so that you can use it to get a price estimate. Having a clean and orderly financial record can give you leverage when your potential buyers are interested in making a deal. Start working with a bookkeeper to prepare the following documents:
- Income statement: The one that shows gross revenue and how much the business made or lost every year.
- Cash flow statement: This one shows how much money came in, how much paid out and how business assets changed.
- Balance sheet: It should show the value of all tangible assets owned by the business and less of liabilities the company owes.
- Seller’s discretionary earnings statement (SDE), also known as the owner’s cash flow: This one should show how much the business made after deducting one-time and discretionary expenses.
2: Estimate the Value of Tangible Assets
Any business would commonly have assets, tangible or intangible. The real assets are all the physical assets of the company, including inventory, equipment, furnishings and fixtures. You need to list the price of each item for mainly two reasons:
- Business buyer will require a full asset listing including purchase price and current market values.
- You might want to liquidate the assets which is much faster than selling it through a business for sale.
3: the Seller’s Discretionary Earnings Statement
The seller’s discretionary earnings (SDE) statement or the owner’s cash flow statement is the basis for business sale pricing and the target of interest for business buyers. Some may confuse it with an income statement. An income statement is the business income that has standard and legal deductions. It also ends with the lowest possible taxable profit. The SDE shows the full earning power of the business, as it could also benefit the new owner. It adds back non-recurring, non-essential, and discretionary expenses. It is adding back money to your net profit. Your bookkeeper would know how to come up with this statement. Anyhow, here is an example of how it could look like:
|Annual Owner’s Cash Flow||$|
|Annual Costs of Sales|
|Annual Net Income|
|Interest paid on loans.|
|Depreciation (tangible assets)|
|Amortization (depreciation of intangible assets)|
|EBITDA (Earnings Before Interest, Depreciation, Taxes and Amortization)|
|Addbacks for Personal, One-Time, Discretionary Expenses|
|Owner’s salary, Payroll Tax, Benefits|
|Family Member Wage, Payroll Tax, Benefits|
|Personal Auto Usage & Fuel|
|Owner’s Insurance Premiums|
|Owner’s Retirement Plan contributions|
|Travel or Entertainment Expenses|
|Subscription and Memberships|
|Adjusted Owner’s Cash Flow Statement|
4: Get the Earnings Multiple
An earnings multiple is an estimated multiplier of the business in the future. SMEs commonly sell based on an earnings multiple of one to four. It merely means new business owners could get between one and four times the SDE of the business, attached to the business attraction. If you are wondering how attractive your business is, try and use the following guide:
|CHARACTERISTIC||Rate from 1 (lowest) to 4 (highest)|
|Recent Performance: |
Last 2-3 years – Profit climbing (highest), Flat (average), Decline (lowest)
|Ease of Transition: New owner transits smoothly (highest), otherwise (lowest)|
|Financial Records: Clean, accurate, complete financial records (highest), cluttered, not inclusive of all income (lowest)|
|Clientele: Broad base of profitable clients (highest), few customers account for most sales (lowest)|
|Products: Distinctively unique, one-of-a-kind, serves a niche (highest) or no competitive advantage (lowest)|
|Recurring Revenue: Sells via subscriptions, monthly fees, automatic delivery program (highest) or sales are one-time transactions or occasional customers (lowest)|
|Staffing: Having transferable key staff that will assist with business transitions (highest) or you are the only key staff (lowest)|
|Location: Operating from a desirable location with long term transferable lease and excellent facilities (highest) or new owner will need to improve location-wise (lowest)|
|Brand and Reputation: Is the business well-known and at the top position against competitors (highest) or competitors are considered more substantial (lowest)|
Once you complete this chart or any chart similar to this, you get an idea of how attractive your business will be to buyers. If your company has more highs, chances are buyers will purchase it even at a high price. Otherwise, be aware that your business has more lows, buyers will offer a lower than average purchase price.
5: Early Price Prediction
Now that you have the value of tangible assets, SDE and earning multiple, you can have an early price prediction. But, before you eagerly present it to potential buyers, note that it will be adjusted. Reason being, you cannot be the one assessing your business attractiveness. An intermediary or a business assessor will do the job right. Your asking price must account for downward negotiations from buyers. Nevertheless, the price must be attractive so that buyers are still interested. Always reach a price that is comparable to what’s offered in the market.
6: Check and Compare
At this stage, you can check your business against other businesses of the similar price range, size, and category and market area. Most advertisements are providing asking price, not necessarily transaction price. If possible, hire a business broker to see if your asking price corresponds with the recent business for sale.
Lastly, you may refer to our Business Valuation Calculator for more assistance.