Giving Your Business a Tune-Up

Have VR Appraise Your Business Periodically

tune-upIf you’re a business owner, do you know how much your business is worth? If you don’t, you’re not alone. The majority of small business owners in today’s market do not know the value of their business. Additionally, there are fewer who have exit strategies in place.

Most people have an annual physical checkup to monitor their health; receive a monthly or quarterly review of their financial portfolio to see what needs to be changed. Having your business appraised and periodically updated should be no different. If you had your business valuated years ago, it’s time to update.

Planning for the Future
A business valuation isn’t only used for when you’re selling your business. It’s also to improve your business, and plan for the future – retirement, new endeavors, etc.

VR will help you properly valuate your business, and prepare an exit strategy. No one is ever too busy to do something now; especially when it comes to something you’ve invested time and money. If you’re heavily invested in your business, you owe it to yourself to have valued representation in make sure your interests are met.

Here are some main reasons why you should have your business valuated:

  • Transferring ownership to other members of your family on a tax-deferred basis;
  • Resolving an exit strategy with a partner;
  • Implementing incentives for employees besides promotions and bonuses;
  • Determining a fair market price for selling the business;
  • Examining the possibility of a minority investor such as a venture capitalist.

The Internal Reasons
Why you should really have a business valuation is to discover what initiatives need to be taken in order to improve your infrastructure and prepare for a visit from a prospective buyer.

More importantly, you should be aware of what your business is worth compared to your competition. Each VR business intermediary will be able to do an industry report detailing other similar businesses, and help explain why some maintain a higher multiple of earnings than others.

This analysis should include:

  • Growth rate;
  • Profit margins;
  • Sales per employee;
  • Return on investment; and
  • Overhead allocation.

In addition to the financial analysis, there are other areas that will need to be evaluated such as:

  • Brand equity;
  • Long-term contracts with vendors;
  • Customer base;
  • Partnerships;
  • Intellectual property;
  • Trained employees;
  • Patented products and copyrights;
  • Risk factors such as seasonal products.

At VR Business Sales, we will help uncover the areas of your business that have been overlooked to make it stronger and run more effectively; both financially and non-financially. For example, we will be able to determine if you should be focusing your customer concentration elsewhere or whether you need additional management.

Through the business valuation, you will be able to improve and correct on the required areas, helping you increase the value of your business.

Complete the Sellability Score questionnaire today and we’ll send you a 27-page custom report complete with your score on the eight key drivers of Sellability. Take the test now:

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Why Your Company Needs a Physical

Silhouettes of Business and Casual People WalkingMany executives of both public and private firms get a physical check-up once a year. Many of these same executives think nothing of having their investments checked over at least once a year – probably more often. Yet, these same prudent executives never consider giving their company an annual physical, unless they are required to by company rules, ESOP regulations or some other necessary reason.

 

 

A leading CPA firm conducted a survey that revealed:

  • 65% of business owners do not know what their company is worth;
  • 75% of their net worth is tied up in their business; and
  • 85% have no exit strategy

There are many obvious reasons why a business owner should get a valuation of his or her company every year such as partnership issues, estate planning or a divorce; buy/sell agreements; banking relationships; etc.

No matter what the reason, the importance of getting a valuation cannot be over-emphasized:An astute business owner should like to know the current value of his or her company as part of a yearly analysis of the business. How does it stack up on a year-to-year basis? Value should be increasing not decreasing! It might also point out how the company stacks up against its peers. The owner’s annual physical hopefully shows that everything is fine, but if there is a problem, catching it early on is very important. The same is true of the business.

Lee Ioccoca, former CEO of the Chrysler Company said in commercials for the company, “Buy, sell or get-out-of-the-way,” meaning standing still was not an option. One never knows when an opportunity will present itself. An acquisition now might seem out of the question, but a company owner should be ready, just in case. A current valuation may be as good as money in the bank when that “out of the question” opportunity presents itself.

One never knows when a potential acquirer will suddenly present itself. A possible opportunity of a lifetime and the owner doesn’t have a clue what to do. Time is of the essence and the seller doesn’t have a current valuation to check against the offer. By the time it takes to gather the necessary data and get it to a professional valuation firm, the acquirer has moved to greener pastures.

Having a company valuation done on an annual basis should be as secondary as the annual physical – it really is the same thing – only the patients are different.

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Keeping the Train on the Tracks – How to Sell Your Business without Disruptions

calcNormally, a business owner who’s looking to sell has to keep their intentions close to the chest. You don’t want to upset your employees, your customers or the vendors; any of which could cause a major disruption in your operation and be a detractor to potential buyers. Since selling your business can be both an emotional and overwhelming process, it’s important to consult VR Business Sales. We will facilitate the process to where you will be able to continue operating the business as normal while we look for a qualified buyer. A qualified buyer will want to see a thriving and well-operated business if they are put down a substantial financial investment.

Each VR business intermediary is equipped with the tools and experience to ensure that you don’t make any pivotal mistakes. Below are some areas that we will help you stay on the track with to get you to completion of the deal.

Pricing the Business at the Fair Market Value

Although many sellers would like to see their business’ worth based on the time, effort and finances they have spent, you don’t want to go in and place a high price on a business. When you make that decision to sell, you have to be able to understand what buyers are looking for so that you can come to win/win arrangement. If the price you’re looking for is higher than what the fair market value is, chances are you will have a difficult time finding a buyer who’s willing to write a check.

Maintaining Confidentiality

Any type of disclosure outside of the two parties involved can detonate the deal. It’s critical that all precautions are taken as to not disturb the running of the business operation. Employees can and will run if they feel they’re not working at a stable company. Therefore, make sure all correspondence stays away from the business. Each VR business intermediary maintains constant contact with both you and the buyer to make sure all questions are being answered and no breaches in confidentiality are made.

Never Sell Impulsively

It’s normal for a business owner to burn out and decide at the drop of a hat to find a buyer to take over the business immediately. However, do not make a rash decision. At VR, we sit with you to make sure you plan ahead both carefully and accordingly. An accelerated business sale can result in leaving a lot of money on the table if you don’t take your time.

We will assist you in all aspects of the process from:

  • Business valuation
  • Market analysis to assess opportunities for selling
  • The packaging and marketing of the business
  • Qualification of prospective purchasers
  • Negotiation services
  • Contract preparation, due diligence and post closing procedures

Anticipate the Buyer’s Requests

A buyer is going to want appraisals of the property of the business, the machinery and equipment, inventory, intellectual property and goodwill. Due diligence and investigation takes time on the buyer’s end, so it’s important to have your ends covered before the business goes to market. At VR, we will assist you in getting all areas of your business prepared for the buyer.

Focus on the Structure of the Deal

Any seller will want all cash at closing, but that seldom happens without some sort of financing involved. In many business sales, the structure is more important than the price; therefore, make sure you are able to see what needs to be done in the structure of the deal so that it doesn’t become a deal breaker.

Being Flexible on the Terms

You are not going to win every point of contention. It’s important to compromise when you need to, and save your battles for the most important issues in the deal. If you try to win every battle that arises, the buyer may walk away. You don’t want to come off as being inflexible, and your VR business intermediary will help you understand which areas you should show some willingness to step back and accept the buyer’s point.

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4 Steps To Finding Your Sell-By Date

Most business owners think selling their business is a sprint, but the reality is it takes a long time to sell a company. 

The sound of the gun sends blood flowing as you leap forward out of the blocks. Within five seconds you’re at top speed and within a dozen your eye is searching for the next hand. Then you feel the baton become weightless in your grasp and your brain tells you the pain is over. You start an easy jog and you smile, knowing that you did your best and that now the heavy lifting is on someone else’s shoulders.

That’s probably how most people think of starting and selling a business: as something akin to a 4 x 100-meter relay race. You start from scratch, build something valuable, measuring time in months instead of years, and sprint into the waiting arms of Google (or Apple or Facebook) as they obligingly acquire your business for millions. They hand over the check and you ride off into the sunset. After all, that’s how it worked for the guys who started Nest and WhatsApp – right?

But unfortunately, the process of selling your business looks more like an exhausting 100-mile ultra-marathon than a 100-meter sprint. It takes years and a lot of planning to make a clean break from your company – which means it pays to start planning sooner rather than later.

Here’s how to backdate your exit:

Step 1: Pick your eject date

The first step is to figure out when you want to be completely out of your business. This is the day you walk out of the building and never come back. Maybe you have a dream to sail around the world with your kids while they’re young. Perhaps you want to start an orphanage in Bolivia or a vineyard in Tuscany.

Whatever your goal, the first step is writing down when you want out and jotting some notes as to why that date is important to you, what you will do after you sell, with whom, and why.

Step 2: Estimate the length of your earn out

When you sell your business, chances are good that you will get paid in two or more stages. You’ll get the first check when the deal closes and the second at some point in the future — if you hit certain goals set by the buyer. The length of your so-called earn out will depend on the kind of business you’re in.

The average earn out these days is three years. If you’re in a professional services business, your earn out could be as long as five years. If you’re in a manufacturing or technology business, you might get away with a one-year transition period.

Estimate: + 1-5 years

Step 3: Calculate the length of the sale process

The next step is to figure out how long it will take you to negotiate the sale of your company. This process involves hiring an intermediary (a mergers and acquisitions professional, investment banker or business broker), putting together a marketing package for your business, shopping it to potential acquirers, hosting management meetings, negotiating letters of intent, and then going through a 60 to 90-day due diligence period. From the day you hire an intermediary to the day the wire transfer hits your account, the entire process usually takes six to 12 months. To be safe, budget one year.

Estimate: + 1 year

Step 4: Create your strategy-stable operating window

Next you need to budget some time to operate your business without making any major strategic changes. An acquirer is going to want to see how your business has been performing under its current strategy so they can accurately predict how it will perform under their ownership. Ideally, you can give them three years of operating results during which you didn’t make any major changes to your business model.

If you have been running your business over the last three years without making any strategic shifts, you won’t need to budget any time here. On the other hand, if you plan on making some major strategic changes to prepare your business for sale, add three years from the time you make the changes.

Estimate: + 3 years

Figuring out when to sell

The final step is to figure out when you need to start the process. Let’s say you want to be in Tuscany by age 50. You budget for a three-year earn out, which means you need to close the deal by age 47. Subtract one year from that date to account for the length of time it takes to negotiate a deal, so now you need to hire your intermediary by age 46. Then let’s say you’re still tweaking your business model – experimenting with different target markets, channels and models. In this case, you need to lock in on one strategy by age 43 so that an acquirer can look at three years of operating results.

It certainly would be nice to make a clean, crisp break from your business after an all-out sprint, but for the vast majority of businesses, the process of selling a company is a squishy, multi-year slog. So the sooner you start, the better.

 

This article provided by The Sellability Score – Complete the Sellability Score questionnaire today and we’ll send you a 27-page custom report complete with your score on the eight key drivers of Sellability. Take the test now:

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Assessing the Current Business Transactions Market Place

The total number of business transactions reported within the US continues to excel at a pace not seen since the recession.  We are now also seeing the average transaction price increasing to similar levels.

Below are some stats to help you assess which business categories are the “hottest” – both in terms of total transactions and valuation statistics.  The statistics are based on business transactions reported to Pratts Stats, a leading private company transaction database, covering the period of January 1, 2014 through June 30, 2015.  The statistics do not include any “public” company transactions, or transactions that were secured by a public company.

 

Averages of transactions
SIC / Category % of Total Transactions Annual Revenue Earnings Sales Price
(01 thru 09) Agriculture, Forestry, and Fishing 5.61% $1,034,767 $166,974 $480,172
(10 – 14) Mining 0.16% $8,299,174 $1,867,622 $9,555,000
(15 – 17) Construction related 5.61% $2,338,870 $357,575 $1,065,197
(20 – 39) Manufacturing 9.70% $2,293,158 $378,321 $1,516,270
(40 – 49) Transportation, Communications,    Electric, Gas and Sanitary Services 3.96% $3,666,123 $429,036 $965,808
(50 – 51) Wholesale Trade 6.50% $3,482,618 $290,909 $1,320,158
(52 – 59) Retail Trade (includes Restaurants) 30.06% $1,283,801 $123,901 $416,737
(60 – 67) Finance, Insurance, Real Estate 3.15% $494,552 $132,784 $360,705
(70 – 89) Services (includes Business Services) 35.25% $1,053,405 $443,192 $606,060
Totals for all transactions 100.00% $1,840,098 $266,921 $929,278
Subcategories
Restaurants 17.00% $623,513 $97,090 $207,980
Business Services 10.38% $1,533,510 $224,884 $850,734

 

Is the time right for you to considering selling your business?  Feel free to contact VR Business Brokers and we will be happy to schedule a meeting to discuss what a business sale at this point could mean for your future – in full confidence, without cost or obligation.

Or, if you prefer to gather more information on your own, complete the Sellability Score questionnaire today and we’ll send you a 27-page custom report complete with your score on the eight key drivers of Sellability. Take the test now:

Sellability Score


11 Point Checklist: How to Attract the Right Buyer

11ptWhen considering selling your business, every buyer expects a business of great value as an investment. Depending upon the qualified candidate, it could be an entrepreneur with a specific set of needs that motivates them to invest in an established business or it could be a private equity group that sees the benefit in acquiring a business based on their strategy for future growth. Whatever the reasoning might be, the challenge is what can you do to attract the right buyer? Here are 9 steps to take in order to reel in the best buyer during the selling process:

Provable books and records – In the purchase of a business, every buyer expects to verify the information given to them by the seller and the seller’s broker. This is done during the due diligence period, after a written contract has been agreed to by both the buyer and seller. Typically this is done by a qualified financial advisor or CPA.

Reasonable price and terms – When a business is to be purchased, a reasonable price at fair market value is determined by other businesses in a similar industry to the one available for sale. The terms, commonly referred to as seller or third-party financing determines the desirability of the business listing. The return on investment (ROI) establishes if the price and terms are reasonable, based on the amount of time it takes to recoup the investment.

Financial leverage – The financial leverage it is gained by utilizing the down payment and suitable loan to maximize the investment level of buyers capital. The leverages gained by a formula of borrowing from the seller or third-party lender to maximize the investment potential. Thus a business offer financing is more desirable than a business with the same asking price and does not have terms.

Discretionary Earnings (DE) – Discretionary Earnings is all also referred to as “Owners Benefit” and also “Adjusted Net”, which is a term to reflect the salary and net profit of the business. It also contains other items that are at the discretion of the owner to purchase for or not for business purposes. It is also common practice to add back any interest paid and depreciation on equipment during the period of time being analyzed.

Furniture, Fixtures and Equipment (FF&E) – FF&E is the value of these items that are included in the purchase on either a Stock Transfer or Asset Purchase agreement. Typically they are valued at today’s marketplace conditions and not when they were originally purchased.

Transferable lease – In the sale of a business the property leased must have an assignable lease at the current operating cost of the tenant. If this lease is not assignable, then a new lease must be negotiated, and typically is at a higher rate than the current lease.

Training after the acquisition – In most cases, after the sale occurs, the owner and seller of the business will help to acquaint the buyer with a reasonable time, typically two weeks. During this time period, the seller will train the buyer with all facets of the business, be introduced to employees and vendors as well as customers. This helps to make the transition a smoother period so as to not impact on the business in a negative way.

Good appearance – The overall appearance of the exterior as well as interior of any business is a strong selling feature. The curb appeal has a lot to do with the value of the purchase of a business.

Covenant not to compete – It is always desire of a buyer to not have the seller compete for a restricted number of miles surrounding the business and for a stated time period. In this agreement, it helps to insure the seller will not compete with the buyer and take the customers away from future sales. This is very important in a Retail or Restaurant business where the loyalty has been established by the existing business.

Understandable reason for the sale – Knowing why the business is being offered for sale helps to justify the reason for the seller to exit his or her business. Retirement, health, other factors such as relocation, partner and family disputes can also impact on the reason for sale.

Dealing in a timely manner – Every business is a changing picture from week to week and timing is crucial in the purchase of a business. By not being timely, severe changes may occur affecting the value, and profitability of the business. Seasonal changes can also increase or decrease the value based on sales volume fluctuations.

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Should You Be Selling Your Company…Now?

file0001133230199The answer to the question asked in the title is, “It all depends!” There are all sorts of studies, surveys and the like suggesting that as more and more “baby-boomers” reach retirement age, the market will be flooded with companies for sale. The consensus is that with these privately-held company owners reaching and nearing retirement age, the time to sell is now. In one survey, 57 percent of business owners said that their age was the motivating factor for exiting their business. In another one, 75 percent of owners with revenues between $1 million and $150 million stated that they looked to sell within the next three years. Reading all of this information, one gets the feeling that over the next few years almost every privately-held business will be on the market.

While there are always going to be those who feel that Armageddon is coming, or that all of these companies are going to be on the market on the day that baby-boomer owners hit 65, there are some compelling reasons to sell your business now – and some reasons that may compel you to hold off. One good reason for any owner to sell “now” is that it just may be time to “smell the roses,” as they say. After running the business for so many years, “burn-out” is a very valid reason for selling. Many business owners may have, without actually realizing it, let their business slide a bit. You lose a customer or client here and there and don’t make the effort to replace them. Or, you don’t make the effort to check back with the supplier who has promised to give you a better price on an important product or service. It’s too easy to stick with the one you have been dealing with for years, even though you know the price is probably too high.

On the flip side, it is also easy to convince yourself that business is down a bit this year, maybe due to the current economy or recent legislation, likely reducing the value of the company. Maybe waiting until things pick up a bit and values increase would be a good idea. Thirty-five percent of business owners, in one survey, said they were going to hold off selling because they felt their business would continue to grow and therefore, hopefully, also increase in value. Unfortunately, no one can predict the future. New competitors may enter your market. Foreign competition may move in. You may not have the energy or that “fire-in-the-belly” you once had, so the business may slide even further.

You could also point your finger to the tightening of credit and ask, “How is a buyer going to finance the business?” Despite very low interest rates, borrowing money is now more difficult.

There is an old saying that the time to plan your exit strategy is the day you start running the business. Business owners can’t outgrow interest rates, legislative changes or aging. The time to sell is when you are ready to sell. The mere fact that you have read this far may be a sign that now is the time to sell. To learn more about current market trends, what your business might sell for, and what your next step might be, call a professional intermediary.

© Copyright 2015 Business Brokerage Press, Inc.

Photo Credit: slideshowmom via morgueFile


A blood pressure test for your business

When was the last time you had your blood pressure tested?

Taking your blood pressure is one of the first things most doctors do before treating you for just about anything. How much pressure your blood is under as it courses through your veins is a reliable indicator of your overall health; and it can be an early indicator of everything from heart disease to bad circulation.

Does it tell the doctor everything they need to know about your health? Of course not, but one powerful little ratio can give the doctor a pretty good sense of your overall wellbeing.

Likewise, your Sellability Score can be a handy indicator of your company’s wellbeing. Like your blood pressure reading, your company’s Sellability Score is an amalgam of a number of different factors and can help a professional quickly diagnose your company’s overall health.

Predicting Good Outcomes Too

When a doctor takes your blood pressure, they not only rule out possible nasty ailments; they can also use the pressure reading to forecast a healthy life ahead. Similarly, your Sellability Score can predict good things for the future. For example, based on more than 10,000 business owners who have completed their Sellability Score questionnaire, we know the average multiple of pre-tax profit they are offered for their business when it is time to sell is 3.7. By contrast, those companies that have achieved a Sellability Score of 80+ are getting offers of 6.6 times pre-tax profit.

In other words, if you have an average-performing business turning out $500,000 in pre-tax profit, it is likely worth around $1,850,000 ($500,000 x 3.7). If the same company improved its Sellability Score to 80+ while maintaining its profitability of $500,000, it would be worth closer to $3,300,000 ($500,000 x 6.6).

Are you guaranteed to fetch 6.6 times pre-tax profit if you improve your Sellability Score to 80? Of course not. But just like blood pressure, one little number can tell you and your advisor a whole lot about how well you are doing; and your advisor can then prescribe an action plan to start maximizing your company’s health – and its value down the road.

Heart disease is called “The Silent Killer” because most people have no idea what their blood pressure is. People can walk around for years with dangerously high blood pressure because they haven’t bothered to get it tested. The first step on the road to health is to get tested. If you have a great score, you can sleep well at night knowing you have one less thing to worry about. If your score is not where it should be, then at least knowing your performance can get you started down the road to better health.

If you’re interested in getting your Sellability Score, please visit https://www.vrbusinessbrokers.com/officeChild/DALLAS-MCKINNEY/Sellability-Score.aspx

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What Serious Buyers Look For

file000837594608-300x225Obviously, serious buyers want to carefully look at the financials of a company under consideration and all of the other major aspects of the company. However, there are a few other areas that the serious buyer will investigate that sellers may overlook.

The Industry – The buyer will want to take a serious look at the industry itself, the customers, the suppliers, the competition, etc. This investigation will cover the strengths, weaknesses, threats from competition, and opportunities of the potential acquisition. With the growth of the “big box” retailers, much power has shifted from the manufacturer to the retailer. A manufacturer may want to increase prices, but if Wal-Mart says no, it’s a very powerful no.

Discretionary Costs – Some sellers will reduce their expenses in discretionary areas such as advertising, public relations, research and development, thus making for a higher bottom line. However, these cuts will hurt the future bottom line, and smart buyers will take notice of this.

Obsolete Inventory – This is another area that buyers take a serious look at and that can impact the purchase price. No one wants to pay for inventory that is unusable, antiquated or unsalable.

Wages and Salaries – A company may be paying minimum wages, or offering few or low-cost benefits, a limited retirement program, etc. These cost-saving devices will make the bottom line look good, but employee turnover may create expensive problems later on. If the target company is to be absorbed by another, compensation issues could be critical.

Capital Expenditures – The serious buyer will take a very close look at machinery and equipment to make sure they are up to date and on a par with, or superior to, that of the competition. Replacing outdated equipment can modify projections and may affect an offering price.

Cash Flow – Serious buyers will take a long look at the cash flow statements and the areas that affect them. The buyer wants to know that the business will continue to generate positive cash flow after the acquisition (i.e.: after servicing the debt and after paying a reasonable salary to the owner or general manager).

Other areas that sellers overlook, but that the serious buyer does not are: internal controls/systems, financial agreements with lenders, governmental controls, anti-trust issues, legal matters and environmental concerns.

© Copyright 2015 Business Brokerage Press, Inc.

Photo Credit: doctor_bob via morgueFile


Subscribers Make Your Company More Valuable

Why are Amazon, Apple and many of the most promising Silicon Valley start-ups leveraging a subscription business model?

Subscribers not only provide steady revenue; they make your company more valuable in the eyes of an acquirer. In a traditional business, customers buy your product or service once and may or may not choose to buy again; but in a subscription business, you have “automatic” customers who have agreed to purchase from you on an ongoing basis.

There are at least nine subscription models that can be leveraged by businesses ranging from service companies to market research firms to manufacturing concerns.

Recurring Revenue

Recurring revenue—the hallmark of a subscription business—is attractive to acquirers and makes your business more valuable when it’s time to sell. How much more valuable? To answer that, one has to first look at how your business will be valued without a subscription offering.

The most common methodology used to value a small to midsize business is discounted cash flow. This methodology forecasts your future stream of profits and then discounts it back to what your future profit is worth to an investor in today’s dollars, given the time value of money. This investment theory may sound like MBA talk, but discounted cash flow valuation is something you have likely applied in your personal life without knowing it. For example, what would you pay today for an investment that you hope will be worth $100 one year from now? You would likely “discount” the $100 by your expectation for a return on investment. If you expect to earn a 7 percent return on your money each year, you’d pay $93.46 ($100 divided by 1.07) today for an investment you expect to be worth $100 in 12 months.

Using the discounted cash flow valuation methodology, the more profit the acquirer expects your company to make in the future—and the more reliable your estimates—the more your company is worth. Therefore, to improve the value of a traditional business, the two most important levers you have are: 1) how much profit you expect to make in the future; and 2) the reliability of those estimates.

At SellabilityScore.com, one can see the effect of this valuation methodology. Since 2012, this methodology has been used to track the offers received by business owners who have completed the Sellability questionnaire. During that time, the average business with at least $3 million in revenue has been offered 4.6 times its pretax profit. Therefore, a traditional business churning out 10 percent of pretax profit on $5 million in revenue can reasonably expect to be worth around $2,300,000 ($5,000,000 x 10 percent x 4.6).

Then compare the value of a traditional company with the value of a subscription business. When an acquirer looks at a healthy subscription company, she sees an annuity stream of revenue throwing off years of profit into the future. This predictable stream of future profit means she is willing to pay a significant premium over what she would pay for a traditional company. How much of a premium depends on the industry, and some of the biggest premiums today go to companies in the software industry.

Subscription-based Software Companies

To understand what is going on in the valuation of subscription-based software companies, look at Dmitry Buterin. Buterin runs a subscription software company called Wild Apricot. He has also formed one of the world’s first mastermind groups of small and midsize subscription company founders, and each month the group meets to discuss strategies for running a subscription business.

Members of the group were constantly raising money or being courted by investors, so the topic of valuation came up a lot in their conversations. Buterin found that the consensus valuation range being offered to member companies was between 24 and 60 times monthly recurring revenue (MRR), which is equivalent to two to five times annual recurring revenue (ARR).

One way to validate Buterin’s numbers is to check with another guru from the world of subscription-based software companies. Zane Tarence is a partner with Birmingham, Alabama-based Founders Investment Banking, a company that specializes in selling software companies that use the subscription business model. Tarence estimates the valuation ranges he sees as belonging in one of three buckets:

24-48 x MRR (2-4 x ARR)
These are typically very small software companies with less than $5 million in recurring annual revenue. Companies in this first bucket are usually growing modestly, with subscription cancellation rates (i.e., “churn”) in the area of 2-4 percent per month.

48-72 x MRR (4-6 x ARR)
These are larger software companies with recurring revenue of at least $5 million annually, which they are growing at the rate of 25-50 percent per year. Their net churn is typically below 1.5 percent per month.

72-96 x MRR (6-8 x ARR)
These are the rare, fast-growth software companies that are growing more than 50 percent per year, with at least $5 million in annual revenue and net churn below 1 percent per month. These companies usually offer a solution (typically an industry-specific one) that their customers need to use to get their jobs done.

The software business is an extreme example of the benefits of subscription revenue, but no matter what industry you’re in, your company will likely command a premium if it enjoys recurring revenue.

From Alarm Systems to Prescriptions to Mosquitoes

For example, security businesses that monitor alarm systems and charge a recurring monthly monitoring fee to do so are worth about twice as much as security businesses that just do system installations. Retail pharmacies with a large pool of prescriptions for drugs that people take every day, like Lipitor and Lozol, command a premium over a traditional retailer because customers re-up their pills on a regular basis, creating a recurring revenue stream for the pharmacist.

Even tiny companies are worth more if they have subscription revenue. When my colleagues over at the Sellability Score analyzed very small businesses with less than $500,000 in sales, they found that the average offer these small businesses attract is 2.6 times pretax profit.

Compare that to the average Mosquito Squad franchise. Mosquito Squad is a Richmond, Virginia-based company that offers to keep bugs off your patio by spraying your backyard regularly with a proprietary chemical recipe approved by the Environmental Protection Agency. Mosquito Squad franchisees target affluent home owners with an average home value north of $500,000 who entertain in their backyard and don’t want to be bothered by mosquitoes. Mosquito Squad operates on a subscription basis. You subscribe to a season of spraying, which includes 8 to 12 sprays, depending on how buggy it is where you live.

Mosquito Squad is a franchise business, and the impact of its recurring revenue model on its valuation is remarkable. According to Scott Zide, the president of Mosquito Squad’s parent company, Outdoor Living Brands, Mosquito Squad franchises that changed hands over the most recent five-year period had revenue of $463,223 and sold for 3.7 times their pretax profit. That’s a 42 percent premium over the traditional value of a company with less than $500,000 in sales, and it’s because Mosquito Squad operates on a recurring subscription model and 73 percent of its annual spraying contracts renew each year.

Whether you plan to build a subscription-based software application or the simplest personal services business, having recurring revenue will boost the value of your most important asset.

Sellability Score