It’s a dream for many online business owners: build a great company, scale it year over year, and sell it for enough money to explore other personal and professional ventures. But understanding what valuation to give your company, and how to go about doing so, is a fundamental part of achieving such an exit.
In this article, we’ll go over all you need to know about what it takes to properly value your ecommerce business, and ultimately sell it for the right price.
Ecommerce Valuation Methods
Multiple of Historical Earnings
There are several different methodologies that can be drawn upon to negotiate the sale of your company. Among them, and most common, is using historical earnings.
This approach is calculated by looking at annual net profit. Cost of goods and other operating expenses are subtracted from revenue over the past twelve months to arrive at the earnings of the business.
This figure is then multiplied by an agreed-upon number (often referred to as a “multiple”), typically in the ecommerce space this is between 1.5 and 5, depending on the health of the enterprise and other factors that are weighed.
An example of this kind of situation might be a coffee company that last year made $100k in net earnings. A variety of strong headwinds surrounding this brand could allow them to fetch a valuation multiple of 5x in the marketplace. They would then be able to command a valuation of half a million dollars ($100k x 5= $500k).
Beyond this hypothetical scenario, let’s take a look at some real-world examples from the popular show Shark Tank. On this program, a panel of investors hear pitches from businesses and decide if they want to offer capital in exchange for a piece of the company. The show has helped propel such household names as the Scrub Daddy sponge, the Squatty Potty, and Bombas socks.
When deciding to make an offer, the sharks typically look at historical earnings to land on what they feel is a valuation that makes sense. Let’s say an entrepreneur asks for $250,000 in exchange for 10% of the company. This implies a valuation of $2.5 million, because if one-tenth of the business is thought to be worth a quarter million dollars, that amount times ten suggests a full 100% of the business equals $2.5 million.
To determine if this is a logical assumption, the sharks will examine the company’s historical profits. If annual earnings were, say, $500,000 and the company is valued at that $2.5 million number, this gives it an earnings multiple of 5. The sharks will then compare that with what the average valuation multiple is within the industry, while also considering other factors like future market valuation, and any additional premium they believe comes along with having access to their network. This is where the back-and-forth kicks in and what makes for such great TV.
For you as a business owner, using historical earnings in this way enables you to make a fair appraisal of your business, and justify it by pointing to real, tangible profits.
Another way to tackle the valuation of your company is to look at what companies similar to yours have recently been bought for, and arrive at conclusions based on a thorough comparison.
If a business that is the same size as yours, with proportional annual profit, and an equivalent product line and level of brand recognition, was just sold in the open market, you should hone in on the details of that transaction. It is not unreasonable to assume that your ecommerce company could pull in a similar valuation in an eventual sale.
According to Forbes, the sports apparel brand Gymshark hit a $1.3 billion dollar valuation after selling a 21% stake in its business to the private equity firm General Atlantic several years ago. Other brands with a similar footprint in the fitness category, whether seeking to sell all or part of their business, can look to this deal as a benchmark.
While no two businesses are alike, and it’s impossible to draw a straight line from one company to another, by identifying market precedent, you can acquire a ballpark figure and begin to set expectations for a fair valuation.
It’s similar to how you might look at what previously sold items have gone for on eBay before deciding how to price your auction. When selling an ecommerce business, meaningful insights can be gathered based on other deals that correlate with the one you are proposing.
Discounted Cash Flow
A discounted cash flow analysis is mostly used to gauge traditional businesses with lengthy, stable track records, but can still be useful for evaluating the worth of any kind of asset, such as an ecommerce business.
This might best be thought of as what the potential payoff could be for obtaining a company at the present purchase price. In essence, it projects what that company will be worth in the future based on factors like inflation and average rate of return.
It aims to answer the question: what will the benefit be of owning this business down the road, adjusting for variables that might come into play over time?
Factors that Impact Ecommerce Valuations
Annual Revenues and Profits
Chief among the elements of ecommerce businesses that constitute their valuations are annual revenues and profits. Potential buyers want to know precisely how much revenue a company is generating, how effective the company is at turning a profit, and how quickly the company is growing both.
Ecommerce companies that are highly profitable and growing quickly will be more attractive to potential buyers because they typically indicate safer investments that are more likely to produce a return on the invested capital.
Age of Ecommerce Business
How long a business has been in operation is fundamental to its appeal. A company that has an extensive performance history and has demonstrated its ability to withstand economic ups and downs is more desirable than an unproven newcomer. The maturity of your company is one of many aspects taken into consideration during valuation your company and the potential execution of a sale.
A brand name that is synonymous with the products it sells possesses incredible value. Think of the way that society now equates tissues with Kleenex, or photocopying with Xerox. While every company can’t be akin to what Coca-Cola is to soda, the greater brand recognition that exists in the public psyche, the more it is worth.
Source and Retention of Customers
If customers are coming directly to your site through varied means, consider yourself in an ideal position to enact a sale with a high multiple. This is preferable to customers that are finding you only on a third party marketplace such as Amazon. In the latter instance, the customers are not technically yours, but rather those of the marketplace.
Another quantifiable metric to keep in mind is the number of repeat customers you have. If a robust portion of your customer base has bought from you repeatedly, this is a strong indicator that you have a built-in tribe that is loyal to the superiority of your products. Bonus points if your company has a subscription program that locks in recurring revenue.
Healthy, growing, diversified traffic is something that potential buyers are constantly on the lookout for. A mix of visitors that are driven by paid advertising, word-of-mouth marketing, a presence on social media, and organic rankings on various search engines are all ingredients for a vigorous and lively clientele that is discovering you from many different places. Multiple streams of traffic are better than one singular source that can be cut off at any time.
A substantial email and SMS contact list is as good as gold in the world of ecommerce. Barometers like open rate, number of click-throughs, and conversion rate can be used to measure the level of engagement your brand is receiving through these means. The higher these stats are, the more attractive it is to buyers. If you’re looking to sell your business, don’t discount the value of contact lists and the steps that can be taken to cultivate them.
Social Media Following
A strong social media following is not just important for influencers looking to land brand deals. It is also vital for ecommerce businesses seeking to showcase their online presences and broker a sale at a high valuation. A company that has a mammoth community of followers on platforms like Instagram, TikTok, Twitter, and Facebook can lean on this audience to advertise and promote their products at little to no cost.
It is even better if your brand’s social media pages have a respectable number of likes and comments on each post. This conveys that people didn’t just hit follow at one point in time and forgot about your account. Rather, they are demonstrating consistent engagement with your company’s content.
Units of inventory that your business has on-hand can be a valuable asset. If your products have proven demand, and items sell through on a consistent basis, then having inventory already stockpiled eliminates the need for a new owner taking over to have to invest in additional manufacturing.
At the very least, it provides a head start and a built-in buffer for orders that might come through during the transition process after a company is sold. Therefore, the cost associated with inventory that is being warehoused should be considered as part of any contract.
How smoothly a company is being run on the backend is pivotal to how attractive it is to someone looking to inherit the operation. If there are substantial bottlenecks in the chain of command, out-of-control operating costs, and processes are tied in knots, this presents additional problems for a future buyer. The messier the operations and the more difficult it is to transfer workflow mechanisms that are already in place, the harder it will be for a new owner to take over, and thus the lower valuation you will receive.
Supply chain dependability also poses an additional risk. If your brand is solely reliant upon one supplier, and there is uncertainty around your company’s ability to source goods on a consistent, long-term basis, this is a hazardous indicator and a red flag. Having a stable repository of suppliers you can count on, and can call upon to withstand any supply chain pressures and disruptions, is music to the ears of any prospective successor.
Number of Products
The more products you have, the more diversified and dependable sales can be expected to remain. While every brand has certain SKUs that sell more than others, to be able to show potential buyers that not all of your eggs are in one basket is hugely beneficial.
For example, a company in the outdoors niche that the site Empire Flippers analyzed in a case study, and which sold for $2.1 million, had six products with 19 different color and size variations.
Of additional importance is having a clear runway to be able to launch future products. If there are categories under your brand that can be logically expanded upon, this tells a buyer that more growth is possible and supplementary product lines can be developed.
On the contrary, a catalog with thousands, or even tens of thousands of SKUs, may be too burdensome or expensive to manage and can drive down the valuation of a company.
Growth Trajectory and Trends
When evaluating your business, be certain to look at the core metrics surrounding your sales data and site visitations. This involves analyzing such statistics as conversion rates, bounce rates, customer acquisition costs, customer lifetime value, average order value, retention rate, SEO optimization, and level of social media engagement.
Track this data over time and measure how the trends stack up. It goes without saying, but clear, consistent growth is what you should be aiming for. Any areas that are lacking, work hard to make adjustments now. Because when it comes time to sell your business, if your charts are up and to the right, you can bet you’ll be seeing dollar signs in the eyes of any buyer.
Intellectual property can be in many cases just as important as the physical resources your business has control over. IP includes things like design patents, trademarks, logos, unique manufacturing processes, and even website content.
The more differentiated your creative assets are, the less likely they are to be replicated and used in knock-offs that eat into your market share. Don’t be afraid to use the power of the law to stop thieves from infringing upon what is rightfully yours. The more unrepeatable and specialized your intellectual property is, the higher valuation you can dictate when selling your business.
Reasons to Sell Your Ecommerce Business
There are more than one reason to potentially sell your ecommerce business, and the motivation will be different for everyone. Understandably, it might also be an emotional process to hand over the keys to something you have worked so hard to build. But generally speaking, selling a business is an opportunity to cash in on that hard work and realize the fruits of your labor.
It can relieve everyday stresses and open up new avenues to pursue other endeavors. It also liquidates a substantial amount of capital, which in turn frees up time to do as you please. All the while, the business you originally founded still gets the chance to thrive under fresh leadership.
How to Sell Your Ecommerce Business
Many resources are at your disposal to help clear the way for the buying and selling of your company after arriving at a proper business valuation. High-traffic marketplaces like Empire Flippers and Flippa are a few examples of where you might go to list your company and browse what other online businesses are being sold for.
These platforms enable you to solicit offers, take the temperature of the market, and speak with professionals that can guide you in the right direction as you cross the finish line and finalize the details of your sale. Use this guide to learn more about selling your ecommerce business.
Knowing how to value an ecommerce business is not always easy, and enlisting expert advice can help you navigate choppy waters. Utilizing a third-party broker that specializes in valuing online businesses allows you to make use of an impartial intermediary that can help facilitate a smooth transaction that is ultimately a win-win for all involved.