What is the Right Price for My Business
The old adage, that the fair market value of any item equals the highest price that a buyer is willing to pay and the lowest price the seller is willing to accept, holds true even when discussing the sale of any entire business.
However the appropriate price equilibrium can only be reached with proper information disclosure and understanding. The most common pitfall to establishing a fair and representative price is called “emotional pricing”. Emotional pricing includes the incremental pricing factors that overweight non-tangible items. Examples include pricing increases due to the business being in the seller’s family for decades, or non-documented/reported income that is verbally communicated, and more. Emotional pricing is typically the first area to be negotiated in any deal and should be managed from the start of conversations.
A common method to price a small or mid-market business is to use a multiple of the Seller’s Discretionary Earnings (SDE) as a proxy. SDE consists of the more commonly referred to Earnings before Interest Taxes Depreciation and Amortization (EBITDA), adding back owner’s total compensation.
EBITDA – The earnings of a business enterprise prior to the following items:
- Nonrecurring income and expense
- Depreciation and amortization
- Non-operating income and expense
- Interest expense or income
- Income taxes
SDE – The earnings of a business enterprise (EBITDA) adding back the following items:
- Owner’s total compensation = Owner’s salary + Benefits (discretionary expenses not a part of continued operations)
The Multiple – The average for which a business sells for above SDE (e.g., 1.8x to 2.5x). Keep in mind that several factors can lead to the business value being increased or decreased from an initial proxy price.
To refine the multiple several factors must be considered:
- Is it a highly desirable business (e.g., location, facilities, contracts, etc.)?
- What number of years has the seller owned and operated the business successfully?
- Is the seller willing to offer attractive financial terms?
- How intense is the local competition?
- Is it a risky business (e.g., 80% of revenue is accounted for by 20% of the customer base)
- What is the current growth trend of the business, up or down?
- Is the industry itself growing or declining?
Developing an estimate is a useful tool for planning to sell your business. However, seek the advice of a qualified advisor to develop the best valuation for your business.
For more information or to schedule a complimentary consultation please contact BridgeLane Advisors, at email@example.com.