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Valuation of revenue-generating Internet businesses
corpuscle




msg:629568
 7:04 pm on Jan 2, 2004 (gmt 0)

I have a friend who values mid (not small) size companies. In her opinion, the way to make money is to SELL a company once it seems like it is a genuine investment, and move on and do something else.

I spoke with her for a while, and I would obviously consider selling up if a good offer was made.

Over the past couple of years, I have built a network of several hundered sites representing various markets - financial, medical, cars, gifts, flowers, hosting, books, music, dvds, adult, hotels, flights, real estate and so on.

The entire network consists of a) lots of sites, b) a lot of knowledge all encoded into scripts and databases which run the sites. All I have to do now is ensure I have incoming links, and the search engines do the rest. I therefore have lots of free time to either increase traffic (a task of which I am now getting bored) or build new businesses.

I am therefore developing a formal business structure to cover everything. I am collating statistics, and making every element of the business manageable by non-technical staff. My question is - how would one value a business that derived all of its income from capturing search engine traffic and converting it to sales - ie all of the technology and the "goodwill"?

What do you think a buyer would pay? If the company makes X per year, do you think 6X is a reasonable price to pay for something so intangible? Incidentally - I would happily sell today for 5X. I have many things I wish to do and there's never enough time to do them all!

 

Essex_boy




msg:629569
 8:38 pm on Jan 2, 2004 (gmt 0)

Your friend is correct, set up a business and sell it, thats what im attempting to do now.

When I buy retail firm bricks and morter - Its one years profits plus stock at valuation i.e cost.

Ive seen really silly prices added to web sites. Why should the price formula be diffrent than in the real world?

Macro




msg:629570
 9:06 pm on Jan 2, 2004 (gmt 0)

how would one value a business that derived all of its income from capturing search engine traffic

Therein lies a problem. SERPS cannot be relied on. Goodwill can, but SE traffic does not equal goodwill. A database of existing customers can be attributed a value. Your own copyrighted content that you are syndicating and charging for can obviously be reduced to a NPV. A large number of opt-in subscribers to your ezine will have some commercial appeal to some buyers. Thousands of non-reciprocated inward links can be considered valuable. But Google could stop sending you traffic in a flash. As a purchaser I would look at the negatives and argue that there is no long term guarantee of SE traffic so I'd offer to pay you deferred amounts contingent on continued good SE results.

Essex_boy




msg:629571
 10:26 pm on Jan 2, 2004 (gmt 0)

You cant really offer deffered payments I wouldnt accept it. The engines are beyond my control - I wish it wasnt but they are.

The database - Id be very reluctant to pay an extar for these, I mean what are they worth really? How many are out of date, dead or are one off buys....

Id still stay with my valuation. At least you would have all of your purchase price back in a year so the search engines can go and sing. Although if you were to buy an ecomm shop Id hope to god that you knew about SEO etc....

Very worrying if you didnt.

jomaxx




msg:629572
 10:36 pm on Jan 2, 2004 (gmt 0)

Do your sites rely on AdSense by any chance? AdSense has only been around for 6 months, so if that's the case then selling for 5 or 6 years' worth of future profits seems highly optimistic.

[edited by: jomaxx at 10:37 pm (utc) on Jan. 2, 2004]

pbreit




msg:629573
 10:37 pm on Jan 2, 2004 (gmt 0)

Probably closer to 1-2x, if that. It sounds like the type of business that could dry up in an instant and thus fairly risky. Most of the value of the enterprise is you which is apparently not included in the sale price.

killroy




msg:629574
 10:59 pm on Jan 2, 2004 (gmt 0)

Whenever I hear something like htis I'm wondering why they would want to sell in the first place. I've jstu entered the industry, and now have 3 sites after 4 months of work and am already doing mid triple digit daily income, which is pretty much 100% profit. Why would I want to sell? This is on a steep upwards curve. For me to make it worth selling, the buyer would have to pay an insane amount, hardly worth the risk for them. Only I, myself can gauge the risk, and it is not something easily quantifyable. I basically have a "feel" for how rankings and income fluctuate.

If somebody offered me such a business, first and formost I'd have to wonder, why would the want to sell?

If I want to do something new today, I could simply stop working on this and continue collecting the money. All I work for is to increase income, not to maintain it.

SN

corpuscle




msg:629575
 1:40 pm on Jan 3, 2004 (gmt 0)

It does seem as though most people who understand what they are buying would offer 1-2x annual income for an outright purchase.

It's just frustrating that publicly traded IT companies have always had P/E ratios of 20+, and in my experience, many of those companies ultimately have no firmer business foundations than those of SE-reliant affiliate marketing sites. The potential for growth remains grossly overvalued, in my opinion.

Essex_boy




msg:629576
 6:26 pm on Jan 3, 2004 (gmt 0)

Killroy:

Its horses for courses mate.

Ive always wanted to own a business that builds businesses and then sells them. Strange but true.

I like the idea that I start with nothing and have an asset worth maybe 20K at the end of it.
Yeah ok im weird....

Macro




msg:629577
 6:55 pm on Jan 3, 2004 (gmt 0)

It's just frustrating that publicly traded IT companies have always had P/E ratios of 20+, and in my experience, many of those companies ultimately have no firmer business foundations than those of SE-reliant affiliate marketing sites

I find that frustrating too BUT they have size. And if your business is big enough you'll get high PE ratios too. The actual PE you'll be valued at would depend on market sentiment and confidence. It's that same sentiment and confidence that sees larger companies as less risky than smaller ones - all other things (like PE) being equal.

figment88




msg:629578
 7:48 pm on Jan 3, 2004 (gmt 0)

publicly traded companies have higher P/E's because among other things they are highly liquid assets.

Macro




msg:629579
 8:00 pm on Jan 3, 2004 (gmt 0)

and ...
they are highly liquid assets
of course
tomld2




msg:629580
 1:28 am on Jan 6, 2004 (gmt 0)

So what would you value the sale price of an online incorporated business that currently has monthly revenues of $45,000-$50,000 a month with a 60% profit margin. Two year solid track record with an average monthly revenue of around $20,000. Over $20,000 in custom development. A solid affiliate program with 1,000 affiliates. Around $10,000 in inventory & equipment. Daily website traffic of around 5,000 unique. An eBay account with almost 3000 positive feedbacks. Detailed customer records from day 1. Plus it's a business that can be run from a home office by one person.

What would you estimate the true market value of a business with those stats?

danieljean




msg:629581
 3:04 am on Jan 6, 2004 (gmt 0)

I imagine somewhere around 500k. 1 year's earnings seems a bit low, since e-commerce growth is expected to continue at a 30% rate for the next few years.

An important element to consider would be the expected value of things like your ebay rating and your client list. If I sell a similar product, these are more valuable to me than if I merely continue doing what you are doing.

Essex_boy




msg:629582
 7:25 am on Jan 6, 2004 (gmt 0)

500K - exactly the figure I thought of when I read the detailed post before I saw the above postings

mquarles




msg:629583
 2:23 pm on Jan 6, 2004 (gmt 0)

tomld2,

Missing a lot on the expense side. What % of revenues is advertising? What % of revenues is affiliate payments?

My guess is that $500K is high. I think the real number for its value is 1-2X what an owner could take home in salary in this case.

Looking to sell?

MQ

rogerd




msg:629584
 4:18 pm on Jan 6, 2004 (gmt 0)

There seem to be a number of subtopics here, but to get back to the original question... Business valuation is usually based on a couple of key measures: future income and assets. Most web companies are light on assets, so just about the entire valuation is based on expected future income. (As with any business, other factors can come into play, e.g., the acquirer can market its own products to the same customers, etc., but let's ignore those for simplicity.)

Future earnings are usually predicted based on an extrapolation of current earnings. The key factors here are growth and variability. A company that is expecting to grow profits at 40% per year for the next few years is worth more than one with prospects for static earnings.

Variability is the killer for many web businesses. Any smart buyer will look at various scenarios and develop a range of earnings forecasts. Business owners often present buyers with an "everything goes right" forecast, while a buyer has to look at the "everything goes wrong" scenario.

The ideal situation from a buyer's standpoint is a high degree of predictability. For example, a firm that sells product via multi-year contracts to stable firms would have excellent earnings predictability. Similarly, a firm with superb brand recognition in an industry with stable prospects and no technology changes might also have fairly predictable earnings.

Web firms driven by search engine results have the opposite situation. If update Hermione wipes out the firm's great rankings, will the firm's earnings go in the tank? Can other firms offer a similar product or service with little difficulty? These are questions a buyer will ask, and to the extent that they are true he will reduce his offer. In the simplest terms, a firm making $100K this year is worth more if next year's range of earnings is $80 to $120K vs. $10K to $120K.

What would a buyer LIKE to see in a web firm? This isn't an exhaustive list, but here are a few ideas:
- Barriers to entry by competitors (product expertise, exclusive vendor relationships, etc.)
- A large portion of revenue from repeat customers (vs. fickle SE visitors)
- Ability to make money on PPC ads (vs. a situation in which only free searches are profitable)
- Diverse traffic sources: links on other sites, type-ins, directories, etc. (vs. 80% Google-driven traffic).
- The business's success isn't reliant on continued involvement of a key individual (e.g., SEO specialist or product expert) who won't be under contract after the sale.

Web businesses may be affected by lack of buyer understanding. This could work both ways - some buyers may be afraid of such businesses, while others might be excited by the perceived high-tech aspects of the industry. A smart buyer, though, will work through the numbers for a variety of conditions to arrive at a price.

tomld2




msg:629585
 5:16 pm on Jan 6, 2004 (gmt 0)

MQ,

Our advertising expenses are relatively low. In fact the only advertising we do is "pay for performance". So we only pay AFTER we make a sale. Affiliates generally receive 28%. Our product cost is 8% of our sale price, so we have a lot of flexibility when it comes to affiliate commissions and advertising possibilities.

To answer your question, I am only looking to sell if the price is right. I am not actively seeking a buyer. Plus, I would only be willing to sell if the price was in the seven figure range, which to everyone else may seem overpriced. However, the room for growth in my opinion would definately warrant a 7 figure asking price. For example we recently released a few additional products that virtually cost us $0, and almost double the average sale price. Plus for any new buyer, marketing additional products to our past & future customers, would allow for virtually unlimited revenue.

Essex_boy




msg:629586
 5:43 pm on Jan 6, 2004 (gmt 0)

I still dont see that $500k is expensive, half is the first years profit then you have all the intangable extras like aff's etc.

Go on sell it and prove em all wrong

danieljean




msg:629587
 7:31 pm on Jan 6, 2004 (gmt 0)

rogerd makes some excellent points. Because of what has been said, I would stick with my price of $500k- I believe I could get good value for those aff links, customer list and ebay ratings.

tomld2- if you want to sell for 7 figures, I believe you'll need to wait a while. If your new product does sell as well as you hoped, and you show strong growth in '04, it would be possible.

Given your cost structure, I would probably be looking for every possible way to invest more money in the business or increase the product list. How much can you expand before saturating your market? Can you expand internationally? etc... If you can grow my 1-300% this year, 7 figures becomes attainable. An enviable situation! :)

Michael Anthony




msg:629588
 7:52 pm on Jan 6, 2004 (gmt 0)

I've bought and sold around 40 businesses. All of the above makes sense, but the real key to value is what someone's prepared to pay for it.

Where the business has various "key men" who are invariably the ones who have created and grown it, it is quite common for the deal to provide for these individuals to stay on on a consultancy basis. A typical scenario would be that the price is agreed as a fixed sum today, with the balance being a percentage of revenues over the coming three years, during which the key personnel work within the newly owned business. As the balance is dependent on the future success of the business, which in turn is the sum payable to the key personnel, there is a vested interest in future success.

This type of deal works exceedingly well and generally makes more sense for all involved. The worst type of deal, where a buyer stumps up a lump sum and the key personnel walk away, almost always ends in disaster.

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