Where would you begin if you had to value an online business? How would you account for the unique factors that aren’t considered when valuing brick and mortar companies? At FE International, we realized there is no industry standard for valuing online businesses, so we created a proprietary model seeking to fill this need, which we have used to access and sell over 500 online businesses. Let’s begin by exploring the five types of online businesses.
The Five (Main) Types of Online Businesses
Most online companies fit into one of these five categories:
- Lead generation: A business that supplies leads to a partner business.
- Content and media: An entertainment or affiliate website, such as Forbes or Entrepreneur.
- Membership and subscription: A site that pay-gates educational content, such as Lynda.
- E-commerce: An online store where various goods are sold, like Amazon.
- SaaS and software products: A subscription to a tool that makes your life or business easier, such as Hootsuite.
How to Value a Website or Online Business
While e-commerce and SaaS businesses generally tend to be more highly valued, each business model carries unique variables that can affect its overall value.
There are several methods commonly used to determine the value of an online business. In some cases, multiple methods are used for accuracy and due diligence purposes.
- Discounted Cash-flow Analysis: This method involves determining the value of the business today based on the cash it could make available to investors in the future.
- Precedent Transactions: This method is used to determine the value of a business based on similar acquisitions in the past.
- Earnings-Multiple: Earnings-multiple involves multiplying the discretionary cash-flow of the seller by a multiple that is determined on a case-by-case basis, calculated by analyzing several variables: financials, traffic, operations, niche, customer base, and other relevant factors.
Unique Factors to Consider
A majority of online businesses are evaluated using the earnings-multiple method. This isn’t to suggest there aren’t other unique factors that can affect the value of a business, but those largely depend on the type of business being sold.
Since a lead generation business is built on supplying leads to a partner, the quality of that partner relationship is a critical factor in ascertaining the value of the business. Additionally, lead generation sites’ reliance on organic traffic means the risk of having your ranking lowered by search engines may also need to be factored in.
Critical aspects of e-commerce businesses include: order fulfillment and inventory, reliable product source, product uniqueness, branding, organic traffic, and product concentration.
Look for passive order fulfillment, whether the business has any stored inventory (this can be added on to the sale price), and whether the business has multiple products that make up a large part of the revenue. If the business is entirely reliant on one product for most of its revenue, it should be considered a riskier business.
SaaS and Software
The earnings multiple of a SaaS business is often affected by: its age, owner involvement (i.e. how much time is required of them to run the business), whether the business is consistently trending moderately upward, churn, and customer lifetime value.
Gathering the right information is key to valuing an online business. The better you understand how the business works, the ups and downs, the hours required to run it, how much money it’s making, and so on, the better you can assess its worth.
The three most important areas to focus on during the due diligence process are financials, traffic and operations.
- Financials: Look at monthly reports to spot any emerging trends. Are there any peaks and valleys? If so, what caused them? Does the business suffer from seasonality in its revenue?
- Traffic: Where is the traffic coming from? Is it coming from many sources, or just one? Organic versus paid? Does the website have a healthy number of backlinks pointing to it? Is the site search engine optimized? Have the traffic numbers dipped at any point? If so, why?
- Operations: Are you capable of running the site? Can the majority of operational tasks be outsourced? Are procedures well-documented?
The key areas listed above are a good starting point, but should not be considered a comprehensive guide to valuing an online business. Each business comes with its own intricacies and complexities, which is part of what inspired us to develop a comprehensive valuation process for the companies whose sale we advise.