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Want to Buy an Online Business? Here’s How Much You Should Offer
By Quiet Light
At any given moment, there are literally thousands of businesses for sale. One of the fastest-growing segments of this marketplace are online businesses for sale.
Many buyers are drawn to online businesses as they often generate significant cash flow without heavy staffing requirements, physical storefronts, or all of the regular difficulties that come with buying a traditional brick and mortar store.
Of course, as you browse different online businesses for sale, you’ll inevitably find a wide range of businesses in terms of their price. The fact is, these businesses can sell for as little as a few thousand dollars up to millions of dollars.
So how much are these businesses actually worth? More importantly, what strategies should you as a buyer employ when making that initial offer price?
Before digging into how much you should offer for that ecommerce, saas, or content online business, let’s look at what determines the value of an online business.
How Much is That Online Business for Sale Worth? It Depends on How Much Someone is Willing to Pay
For all of the sophistical business valuation tools employed by those who are buying online businesses, business valuation formulas do not determine the value of a business. Rather, they attempt to predict the value of a business.
If a business valuation says that your business is worth $1.2 million, this doesn’t mean that this is what a buyer must pay for your business, it is simply a prediction of what the marketplace will likely pay for your business.
But if there isn’t a buyer who is willing to pay that $1.2 million, then the business valuation doesn’t mean much. It’s simply a number on a piece of paper (or a screen).
Conversely, if a business valuation shows that a profitable ecommerce store is worth $1.2 million, but multiple buyers offer more than $1.5 million for that same ecommerce store, does that mean they all overpaid? Of course not.
Why is this important? Most businesses for sale are listed with an asking price. This asking price is usually derived from a valuation of the business for sale. So when it comes to asking “How much should I offer?”, the valuation is actually a prediction of what someone will ultimately be willing to pay.
And while the final number could vary significantly from the predicted number, the fact is that most valuations are surprisingly accurate.
A Business’s Value Is Also Dependent On The Seller
Buyers are not the only factor that influences value buying an online business. The fact is that a seller can have a significant impact on both the value and structure of a transaction.
It is often said that “everyone has their price” which is probably for most entrepreneurs and business owners. However, what that price is might not agree with what the marketplace of potential buyers might be.
In fact, most business owners value their businesses far higher than what the market is currently willing to pay. And this is a good thing as owning a profitable online business is usually more desirable than selling a profitable online business.
We often experience this at Quiet Light Brokerage when an entrepreneur contacts us to get a valuation for their online business. When we run through the valuation exercise, most owners prefer to hold on to their businesses rather than sell them at the expected price that the market would pay. What these owners are essentially saying is that their business is more valuable to hold onto than what the market is currently willing to pay.
I like to refer to this as a business owner’s separation value. An owner’s separation value is the amount of money it would take to convince them to sell their business.
Most of the time, this separation value is significantly higher than what the marketplace is willing to offer. It is only when an owner’s separation value drops into the market values, or when a buyer is willing to break out of market values, that a deal can get done.
Even Within the Market, Values Tend To Be Relative
In an effort to find out what you ‘should’ pay, many buyers look to seller comparable reports to see what other buyers are paying for similar businesses. Marketplaces such as BizBuySell publish these marketplace reports and advertise that they can help you determine what a ‘fair’ asking price should be.
But the idea that this report can help you determine a specific asking price for a business you want to acquire is misleading, at best.
The fact is, business values vary greatly from one business to the next. And this can be seen in these reports.
I ran a report with BizBuySell.com and graphed out the last 40 deals they recorded to see just how easy it would be to predict the value of a business based on their data.
At first, it seemed as if they offered a simple, straightforward answer:
Based on this report, I should offer a multiple close to 2.03 on the cashflow of the business I want to buy.
But if you break down the data that makes up this report, it becomes clear that almost none of their reported sales sold for a flat 2x multiple on the cash flow.
Below is a graph showing the last 40 sales that BizBuySell used to come up with their 2.03 multiple. Each dot represents an individual sale:
While there are a few sales that happened on or close to the average multiple, the vast majority of sales strayed from this average number fairly significantly.
In fact, some sales had multiples as low as 1x cashflow while others were as high as 4x cashflow.
How would this impact your offer price? Well, assume that the business you want to acquire has $100,000/year in cashflow. BizBuySell suggests an average asking price of $200,000. But historical data shows some businesses that would suggest an asking price of $100,000 all the way up to nearly $500,000!
Business Values Are Extremely Relative
While business comparable reports can be useful to judge the macro-health of a marketplace, they are really not useful to determine a specific asking price for an individual business.
The reason for this is that the value of a business depends on multiple relative factors.
How Value Differs From One Buyer to the Next
Different buyers are worth more to some buyers than they are to others based on fit and experience. I personally experienced this years ago when I decided to take a jump into owning and running an ecommerce business.
While I was very excited about the SEO opportunities presented by this ecommerce business, I was entirely unprepared for the logistics of filling orders (this business sold heavy safes which require more complex shipping calculations). The fact is, my prior lack of experience in e-commerce raised the level of risk for me personally. When I acquired this business, there was a lot of factors that carried an extra learning curve and several new areas of potential mistakes and failures (which I frequently fell into).
But while this failed acquisition was relatively risky for me to pull off, an experienced ecommerce business owner would not have carried nearly the same level of risk.
This dynamic among buyers is common: the relative value of an individual business will vary from one buyer to the next based on their experience, their assets, and their individual abilities.
So while a $500,000 profitable ecommerce business for sale with a warehouse and self-fulfillment might represent a number of risks to a first-time buyer, a buyer who already owns their own warehouse and fulfillment staff won’t carry nearly the same amount of risk. Because of this, that first buyer will likely need to pay less in order to account for their relative risk.
Multiples Change with Market Conditions
Not only are business values somewhat relative to the individual buyer looking to buy an online business, but business values tend to change with market conditions.
For example, when I started Quiet Light Brokerage, multiples for a simple ecommerce website could range upwards of 4 times the annual discretionary earnings. However, during the great recession of 2009, these same multiples dropped closer to 2.2 – 2.4 times annual discretionary earnings.
Market conditions change both with the economy but also with the type of business and it’s overall industry health.
Take Amazon FBA as an example. Currently, Amazon FBA businesses are seeing increases in the multiples buyers are willing to pay as the Amazon ecosystem learns how to protect sellers from competition. However, in the past, many buyers were highly suspicious of Amazon ecommerce businesses and highly preferred Shopify and Woocommerce based sites (although these are still highly desirable).
How an overall industry trends can have a significant impact on values.
So How Do You Determine An Offer Price?
If the value of a business for sale is so relative and so fluid, how can you ever determine your offer price?
I would recommend you follow the three steps below.
First, Understand What the Market Expects for Value
Yes, the prices within the marketplace can vary widely depending on the individual business. So using market comparable prices as strict guidelines to determine a specific asking price is probably a bad idea.
However, market comparable prices can put you in the right vicinity to make an offer. Even though the prices of the businesses from the market comp report varied significantly from one business to the next, around 90% of the businesses fell within a certain range of multiples.
So this becomes your starting point for making an offer.
In addition, if the asking price for a business falls far outside of what has historically sold, there is often a reason behind that valuation. For example, a business that is growing 200% year over year will likely have a market-multiple-busting asking price and still be a good deal, assuming that growth continues.
Next, Remember that the Seller Influences Overall Value
Buyers often make the mistake of thinking that a seller is being ‘unreasonable’ if they want a price higher than what the market is willing to pay. But this thought is wrong.
Sellers aren’t being unreasonable for wanting more than what the market is willing to pay. Rather, sellers who want more than what the market is willing to pay understand that their business is worth more to them than what the market is currently willing to pay.
As I explained above, sellers have their own ‘separation value’. Typically this separation value is significantly higher than what the market is willing to pay. Only when a seller’s separation value comes close or within the range of market prices does it make sense to sell that business.
Because of this, you need to consider the seller’s asking price and general expectations as well as why they value their businesses so highly.
Finally, Determine Your ROI & Risk
The most important step in determining how much you should offer for a business is to understand what you expect to get in terms of a return, and discount this for your relative risk.
This is really where you develop your offer price.
As we have already discussed, each business has a certain value to you as an individual. Most businesses for sale will actually have very little value to you, especially if you are not interested in the business itself.
Ask yourself the following questions:
- How much monthly and quarterly cashflow do I want to earn?
- How much work is it going to take to maintain that monthly & quarterly cashflow?
- What skills will I need to have to run this business?
- What could upend this business and disrupt that cashflow?
Consider this from your personal point of view. If the business requires heavy SEO and you have little to no experience in this, then the risk is high. If the business is located in a niche that you know little about, then the risk will be even higher.
Know When It Makes Sense To Walk Away
If you do this basic exercise outlined here today, an offer price will begin to take shape.
A mistake that buyers often make is to skip these considerations and become obsessed with the idea of ‘winning’ the acquisition. This sort of emotional decision-making pushes them into making bad investments.
Understand what ROI you need from the business and make your offer accordingly. It is possible that the relative value for the seller will be higher than your relative value. If that’s the case, then it is better to walk away.
Hopefully, however, the seller’s relative value will coincide with yours and a deal will be done, mutually beneficial to both sides.
Deciding how much you should offer the seller is extremely important in getting the best bang for your buck. Putting together your offer is an art which takes time to perfect, so don’t be discouraged if you get knocked back a few times. Take your own personal circumstances into account, decide how much you can afford to borrow and subsequently pay back, and make your offer.
You may be pleasantly surprised at the seller’s response.