This question is asked every day all of the country, what can I sell my business for? How much is it worth? Of courser the glib answer is, whatever the buyer will pay, but there are basic business principles that do control the answer or at least support the answer as follows.

The big issue is the intangible value the “Good Will”. This is where the multiplier effect applies,  the big hit, where the value is and it is typically focused on the profitability of the business entity.

A buyer is buying an opportunity to make money. The money that the business has been producing is evaluated as: the amount devoted to operating the business, the amount the owner withdraws and the amount of profit the business actually books. Depending upon the industry and other factors when evaluating the selling price, the amount of profit is subject to a multiplier anywheres from 2 to 10 and that’s the price a buyer will typically be willing to pay for the goodwill of the business.

The next areas of focus are the value of the receivables and the inventory and then other capital assets, machinery, vehicles, computers, etc. These all have values and are typically sold for fair market value at the time.

The focus however is always on the good will as whatever the profit may be the multiplier effect is where the real cash will be.

This begs the question as to how this is evaluated if there is no profit. Simple, when there is no profit there is no good will and all you are selling are assets.

Many business owners find this hard to believe or understand but think about it, the major reason someone buys a business is to make a profit. If there is no profit then there is only the assets to buy as the business is not functioning as a money maker and thus there is no intrinsic value to the business itself.

Maybe there is an opportunity to make money if a large investment is made into advertising, or inventory, or capital equipment, but that will be up to the new investor to do and thus he does not pay for the opportunity only for the past performance.

Thus simply stated if you are not showing a profit or are showing very little profit then you will not get the multiplier you hoped for good will and will only be selling the assets.

If you have a profit then you begin to look at the percent of profitability to extract the multiplier effect and value. The question you ask is as follows: what would an investor be willing to spend to earn what the profit may be. Thus if the profit is $100,000. per year would an investor be willing to spend $500,000 to earn $100,000 per year? Possibly.

The multiplier depends upon many aspects some intangible some real, such as the latent opportunity to expand the profit if the investor adds capacity or does something to the equation.  Perhaps the real estate is valuable and will eventually be sold off, perhaps there is a few long term contracts from large stable customers that add security and remove risk.

Perhaps there are patents or exclusives and perhaps there is a strong likelihood for being bought out by a larger company once the sales are improved. All these tangibles and intangibles add value to the potential and thus increase the multiplier of the good will.

The other lesson here is if you are removing cash to decrease the taxes paid, the value of the goodwill also diminishes. Thus one must ask is the tax reduction worth the value of the goodwill deduction? The answer is always a resounding NO, yet business owners frequently do this to their own dismay when they eventually decide to sell the business and get less then they had hoped. Please also keep in mind this is illegal, not reporting cash sales,  and should not be considered for this reason alone.

You cannot successfully convince a buyer that the revenue is really more but you take cash…The revenue is what the tax return says it is…period.

Sometimes buying out a competitor can come with a premium as the combined businesses are then worth more then the individual value of the two separate businesses, and the selling business can get a premium.

Sometimes there is a clear hidden unexploited advantage or opportunity that will dramatically increase profits or gross revenues and one may be able to increase the multiplier because of this.

Sometimes the buyer has an ulterior motive, a hidden agenda, inside information, that adds value and thus he may be willing to pay more because of this, lucky seller.

Sometimes a non compete agreement can add value preventing the old owner from re-entering the business and competing with the new owner.

In the end its arithmetic, the value of the assets, inventory and receivables and the good will if there is profit. The multiplier is where the negotiation focuses.

Prepare your sales presentation around these factors and you will have a clearer value of what your business is worth.

Of course there are always market conditions to consider, and industry standards for your specific industry. All these factors and more influence the selling price of your business but in the end ask yourself what would an investor be willing to pay to earn this amount of annualized return and then you will be closer to knowing your true value. Call for help 413 -549-2966.