How To Value An Online Business — How Much Are Websites Worth?
Everybody wants to get a deal.
Whenever it comes to buying and selling websites, how can you actually spot a good deal, though? How are you going to figure out how much to pay, or how much you should accept for a website that you’re selling?
What determines whether or not it is a good deal?
To help you understand whether or not you’re getting a deal when you’re buying, or you are getting maximum value from the website you’re selling, we are going to take a look at “multiples”.
Multiples, if you’re unfamiliar with the term, is how investors and entrepreneurs place a value on the website they are attempting to buy or sell.
To put it as basic as possible, think about a website that is generating $10,000 per year in net profits. That website sells for $20,000, so it obtained a 2x multiple. The sale price was 2 times the annual net profits.
Every website is different, though.
Understanding “multiples” helps you compare how much value different sites provide that may only resemble each other in the annual net profits they generate.
In general, websites that generate higher revenues will fetch higher multiples. This happens because, in most cases, websites that are generating lower revenues are seen as riskier investments, and typically haven’t proven they can grow over a long period of time.
The business model also plays a large role in how much the website is worth.
Here’s a chart that shows how different business models achieve different multiples:
You can see how the business model can raise or lower a multiple relatively quickly. The reasons the multiples vary so much has a lot to do with what the business model means to an investor.
Investors are willing to spend more money on businesses that require less overall upkeep and can have a large portion of the business outsourced or hired out. They also prefer businesses with lower risk profiles, and businesses that have more future growth potential.
To give you an example, let’s look at a website that isn’t currently generating recurring revenue, and requires a large amount of effort to maintain.
Investors may still be interested in buying the website, but they’re not going to offer the same price as they would with a website that requires minimal overhead, upkeep, and generates recurring revenue.
These Rules Aren’t Cut In Stone
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Even though multiples make it easy for you to value a website, they can be misleading in some cases, for a few different reasons.
Reason #1 - Every website is unique.
I’ll give you a couple examples so you can see how wildly two different websites can vary.
Let’s assume that each website follows the same business model, with both being content-based websites, and that they earn the same $10,000 per year in net profits.
Knowing they’re the same business model and generate the same income, you would think that they are both valued the same.
However, this isn’t the case, at all. One website is 4 years old, and has shown consistent growth while the other website is only 6 months old and has generated those $10,000 in profits over the last 3 months.
This means they are incredibly different beneath the surface.
The younger website is going to sell for substantially less than the older website because the newer website still hasn’t proven itself, and is considered to be a riskier investment.
For an investor that is ready to take on a riskier website, though, they may be willing to offer far more for the younger site, because it has earned more revenue per month than the older site.
In this instance, the younger site could possibly be valued at $100,000, because the annualized profits would be around $36,000. For content-based websites, a 2.9x multiple shows a valuation worth $100,000.
Reason #2 - Multiples don’t always reflect recent growth trends.
Look at the two examples I just gave you. See how their net profits may not give you the entire picture, until you start digging in and figure out how long it took to generate those profits?
The older, more stable business may take longer to provide an ROI, but the younger business has (arguably) more potential left in it. If it has already generated $3,000 per month in profits after 6 months in business, the same growth rate should be easy to sustain.
While looking into the net profits, you’re also going to need to look at the growth trends over the last 12, 24, and 36 months, if possible.
Is the business remaining stable and consistent? Has it started trending upwards? Downwards? How long have those trends lasted?
Does the current business owner believe the trends can be reversed if they are currently trending downwards, or that the trends are going to stabilize and sustain themselves if they are moving upwards?
What is responsible for the trends moving either upwards or downwards? All of these questions are going to affect the final valuation of the business.
Reason #3 - Brokers may use other valuation strategies.
To help you understand this, take a look at another example.
Let’s assume that a broker is selling a website that generates $19,000 in net profits for $44,000.
At first glance, you would see a 2.3x multiple, which isn’t a bad deal. However, when you start digging into the listing notes, you realize that the business didn’t actually earn $19,000 in profits over the last year. Instead, it averaged $1,583 in revenue over the last 3 months.
In this instance, the broker is annualizing the last 3 months worth of revenue to come up with the yearly net profits and the 2.3x multiple.
Many brokers do this because they argue that the previous 3 months are a better indication of the performance of a website instead of the previous 12 months. They may be right, and can defend this position in many cases, but there are some brokers who use this strategy to achieve a higher multiple on a website that isn’t actually worth it.
Most brokers are going to base their valuation off of the previous 12 months of net profits. Some brokers will use the previous 12 months of revenue.
You’ll need to be clear on the valuation strategy that you’re using or are looking at with a website you’re considering to avoid making a potentially costly mistake.
How Do You Find An Accurate Multiple?
You know how businesses are valued, now, how do you actually go about finding an accurate multiple, either for a business you want to buy or when you’re preparing to list your business for sale?
There’s actually a hierarchy of needs that breaks down what investors are looking for when they’re ready to purchase a website from you.
Security, in general, is most important. Investors want to know that their money is safe and they can preserve the capital in the business.
Next comes cashflow. The cashflow in a business is how they generate an ROI.
Finally, lifestyle is the last factor considered by most investors. They typically want to enjoy the business they’re a part of, because it makes owning the business and growing it easier.
The highest priority for every investor is going to be preserving their capital. They don’t want to lose money that’s taken them so long to save.
They also want to make sure they are generating a positive cashflow. Passive income is the ultimate goal for the business.
Finally, enjoying what you do makes doing it that much easier. If an investor isn’t interested in the business, they’re going to have to outsource every part of the process, which quickly eats into their ROI.
Using Risk-Based Valuation Strategies
At the core of their business, an investor will want to preserve their capital. That means they need to start by analyzing the risk associated with the investment they’re about to make.
I’ll categorize each investment as low, medium, or high risk, based on analyzing the most critical aspects of the business:
How much traffic the website receives.How much revenue the website generates.
The product (or content) the website is selling.
Processes used to keep the website running.
How much effort is required to maintain the website.
How dependent the website is on 3rd parties.
What knowledge and skills are required to operate the website.
How complete and accurate the information supplied by the seller is.
Without going deep into each of the different critical aspects, here is a list of examples so you can understand how each aspect plays into the valuation.
Traffic could be high risk, coming from a single source, or shady SEO tactics may have been used in the past.
The content could be highly plagiarized, low quality, and shorter than the industry average.
The products could be riding a trend and potentially go out of style down the road.
These would lean toward a business being extremely high risk, and not necessarily worth purchasing, in my eyes.
If you think that the business is considered to be low to medium risk, or better, you could use the standard multiples valuations listed at the beginning of this post.
However, if you think that the website is on the higher end of the risk spectrum, you may want to reduce the multiple anywhere from 2.5x to 1.5x or even as low as 1.0x the yearly net profits, based on how risk-averse you are as an investor.
Adjusting The Multiple Based On The Opportunity
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When you’re thinking about how to adjust the multiple based on different risks, you may also want to adjust it based on the opportunities presented by the business.
In other words, you could increase it based on the growth potential of the website, or decide how much you’re going to pay based on the historic performance of the site and how stable the revenue has been over a long period of time.
Opportunity is a bit of a grey area, though. For instance, whenever I see a website that hasn’t displayed their ads in the highest converting areas of their pages, I’m fairly certain that optimizing the ad placement can easily improve the revenue of the site.
Sometimes, acquiring the website may mean growing another one of your business. Commercial businesses and real estate investors use this strategy all the time. They’ll buy a business and immediately merge it into a larger business that they already owned.
If the website you’re thinking about buying sells a product that competes with you, or compliments your current product or service offerings, it could be worth far more to you than another investor, so it may be worth it to increase your offer based on the opportunity presented.
A Quick Sample Valuation
To help you walk through how to put a value on a website you’re either trying to sell or are thinking about buying, I want you to understand how I would look at it.
Let’s assume that you are looking at a lead generation website that’s currently earning $10,000 per year, broken down evenly over the last 12 months. The website is 1 year old, and only has 1 buyer currently accepting the leads. Traffic coming into the website is from a single source that can’t really be manipulated or scaled.
I would consider this website to be high risk. That means I may only give it a 1.6x earnings multiple. In other words, I would only be willing to offer $16,000 to buy the website.
Even though it looks like the website may earn more than the initial $10,000 in the 2nd year, I would still stick with the $16,000 offer. Being so volatile, relying on a single traffic source, and a single revenue source, means that if one factor changes at all, the income could change drastically.
Using Other Valuation Strategies
At the end of the day, a website that is generating revenue is a business.
That means you can use any strategy that you would use to value an offline business.
What the business is worth is ultimately how much you are willing to pay for it, and you’re going to be required to use your own judgement.
Some investors prefer to focus on the historical performance, while others will look more into the future potential of the business.
If you want to play the long game, and can afford to be wrong about decisions you’ve made in order to uncover that one diamond in the rough and tap into a literal gold mine, by all means, go for it.
There are quite a few different factors you can use to determine how much a website is worth, with a good portion of them being featured here.
When you understand what goes into figuring out the value of a website, you can make sure you’re getting the highest offers possible for websites you want to sell, and are getting a good deal when you’re ready to buy a website that’s being sold.