Obtaining an online business is tricky most of the time. Various elements must be determined before forging ahead with a decision. The process is challenging, exhausting, and time-consuming. But once all the factors have been accurately assessed, valuable information becomes available.
Only once all these elements have been thoroughly investigated should an informed choice be made. Assimilate all the necessary information to place yourself in a strong position to make a wise choice and make a valuable investment.
Do a discounted cash flow analysis
A discounted cash flow (or DCF) analysis comprises developing a comprehensive forecast of business free cash flows. Use a prearranged discount rate to discount these forecasts, which is typically derived from the weighted average cost of capital (WACC) when acquiring an existing business.
In essence, what this analysis accomplishes is that it takes the present-day dollar value, and forecasts what this value is likely to be at a future date for the specific business interest. Analyses come in many shapes and forms, and this technique is appropriately used to evaluate a stable business.
Unfortunately, using a DCF is no guarantee of a business’s value, and neither should it be a standalone valuation technique. Follow this analysis with several others discussed below.
Precedent business purchases rely on the investigation of other growth indicators. Use these indicators to check the appraisals for the target business and what similar businesses have been valued for. Indicators such as EBIT or interest before earnings and tax or EBITDA come to mind here. If the company’s details are publicly available, this will be a multifaceted undertaking but worth the effort.
When the business of interest is privately run as many online businesses are, this comparison method will be problematic. Usually, the owner will be willing to provide relevant transaction records if the company is up for sale. Use an accountant or professional business evaluator to facilitate the transaction or earnings-multiple valuation process if you are unsure of the requirements.
Evaluate site traffic
Once the financial evaluations have been covered, you can move on to other approaches to determine business value. The traffic value system requires an examination of key phrases that encourage traffic to visit the website. Include the CPC value of top keywords from Google AdWords, which should then be multiplied by the number of visitors that specific phrases have motivated to visit the site.
The result of this search will provide a good sense of how much the traffic value will be once it is monetized. Although by no means a conclusive system with which to value an online business due to its shortcomings, this technique is a good filler on which to base a purchase decision.
Multiple techniques for small business valuations
Using the multiple based technique is probably one of the most accepted methods to determine business value. Profits and the elements that impact the multiple must be considered. Seller discretionary earnings (SDE) is the remaining cash after the value of sold goods and operating costs have been subtracted from the gross income of the business.
What should be deducted and what should not form part of this formula, is up to the valuator. Factors that should be deducted, however, encompass the owner’s compensation, depreciation, travel expenses, and office rent. Additional deductions need to be investigated per business. Only once the SDE has been defined, can the calculation proceed.
Influencing factors on the multiple
Buying an online business should cover all the bases. Three important factors that should influence the decision must comprise the scalability of revenue, its transferability, and the sustainability of this element. When considering the multiple techniques, other considerations also come into play.
Multiple factors can impact the use of the multiple technique, financial details being the most significant. The potential buyer should be asking questions like how old the business is, the flow of gross and net income over the past three years or more.
A comprehensive understanding of business processes must take place to determine if revenue streams are transferable to the new owner, whether the cost structure can be copied and so on.
Website traffic also influences the use of the multiple technique. A potential buyer should find out how much site traffic is promoted from searches, the stability of rankings and how these have been impacted by short and long-tail keywords, the flow of traffic over time, penalties initiated by Google, industry trends, and how sustainable the traffic flow is.
The complexities of the multiple method do not end with the SDE, financial and traffic particulars, but should encompass a thorough investigation of business operations.
Business operations refer to processes, policies, standards, and management methods. Ask about how much hands-on time is required to maintain operations, what the owner is responsible for and what technical capabilities are employed to run the business. Additional questions related to employee roles, responsibilities and so on must be hashed out along with whether the business operates in a niche market.
Determine how fast the market is growing, what the entry barriers are, whether environmental trends influence operations, and how, who service providers are, and what business networks are in place to sustain operations.
The list of questions should be extended to cover trademarks, IP, and others. ‘Others’ include the business model such as SaaS, an App or an ecommerce business. Buyer profiles and market effects also play a role in the valuation process.
In short, an extensive examination is needed, as all these elements influence how the business is to be valued. Once the right questions have been posed, a more accurate multiple can be established on which to base the valuation.
Ultimately, professional aid will complement a process that should be characterized by due diligence. Do your research and do your homework to prevent rash decisions and regrets. After the facts have been accumulated and all the calculations have been done, enough evidence should be present on which to make a sound decision. Buying an online business is not something to be rushed.