The Only Way to Value Your Business

Apr 13, 2018

Many small business owners struggle with determining how to best assess the value of their company – especially when it comes time to sell. When moving on from a company you’ve poured blood, sweat, and tears into for years, you want to make sure you are getting a fair value.

But what does it mean to receive a fair value?

Many business owners turn to peer comparison, that is, seeing what similar businesses have sold for. Many more like to use an industry rule of thumb, determining fair value based on what companies of a similar size typically sell for in the industry. These metrics certainly have a practical application, but they are not the ideal standards for determining how to value your business.

As simple as it may sound, when asking yourself how to value your business, only one answer matters: your business is worth exactly what its value is to you. What’s it worth to you to keep your business? What is all your sweat equity worth? You will only be happy with your exit strategy if you are clear on the answers to those questions.

Take Dan Cody as an example. He started a software company called Arrowhead Healthcare Solutions back in 2007. They provided a way for hospitals to keep track of their equipment and evolved into a slick application that hospital workers used to order supplies.

Dan and his partner started the business by asking some friends and family to invest. The business grew, but there were challenges along the way: Dan had to fire his entire management team in the early days, product issues needed to be solved and operational issues needed to be resolved.

At times, it was a grind, so when it came time to sell in 2016, Dan reasoned that he had invested more than half of his career in Arrowhead and he wanted to get paid for his life’s work. He also wanted to ensure his original investors got a decent return on their money.

He was approached by Ascend, a company in the same industry, who made Dan and his partners an offer of one times revenue. Ascend had recently acquired one of Dan’s competitors for a similar value, so presumably thought this was a fair offer.

Dan brushed it off as completely unworkable. Dan had decided he wanted five times revenue for his business. Even for a growing software company, five times revenue was a stretch, but Dan stuck to his guns. That’s what it was worth to him to sell.

A year after they first approached Dan, Ascend came back with an offer of two times revenue and, again, Dan demurred.

Arrowhead had developed a new application that was quickly gaining traction and he knew how hard it was to sell to the hospitals he already counted as customers.

He told Ascend his number was five times revenue in cash.

Eventually Dan got his number.

Being clear on what your number is before going into a negotiation to sell your business can be helpful when emotions start to take over. Rather than rely on industry benchmarks, the best way to ensure you’re not disappointed with the sale of your business is to decide up front what it’s worth to you.