The Importance of Setting a Realistic Offering Price

Buy low. Sell high.

This adage is timeless – and true – but sometimes, like when a business owner is trying to sell a business, trying to ‘sell too high’ can become a problem. When it comes to listing and selling a business, there are many ways to establish value, so a business owner can determine ‘the right price’.

The most common method of valuing a business is based on multiples of earnings (EBITDA or SDE).  Sellers tend to overvalue their businesses. They have put in the blood, sweat and tears and frequently they have built something out of little or nothing.

Many businesses don’t end up selling (at least the first time they go-to-market) primarily because:

Pricing the business at an unrealistic value is counter-productive…. and here’s why

The value or businesses is often in a very tight range from lowest to highest. It’s frequently 10% or less. Pricing the business above the upper end of reasonable for negotiating purposes has a negative effect in the marketplace. Most buyers have been searching for months or more to find the perfect business. They have probably been down the path with owners at the upper end (or higher) of reasonable, just to realize how unrealistic they really are. Seeing another overpriced business will be a fast-pass for most buyers.

Instead of scaring away buyers, price your business competitively and start the conversation with buyers.

Watch for business brokers suggesting to price your business higher than reasonable. Some could do this to win the listing only to dramatically compress your price later.

Also watch for the professional in your corner suggesting to “not leave money on the table” such as an attorney, financial advisor, or accountant. They may have a lot of experience with business owners, but they likely haven’t sold a business before.

At the end of the day, remember, you’re out trying to attract as many buyers as possible to get them to compete for your business. That won’t happen if you’re overpriced.

Reacting only on emotion
Frequently a business owner can’t separate the emotional aspect of value from what a business might really be worth. Putting a high value on the many struggles it took to get the business up and running and profitable can lead to overstating value.

Anecdotal information
Overpricing can also occur when an owner takes a piece of anecdotal information and projects value. An example might be an unusual, large recent order for products. The idea that “we received a huge order last week,” and projecting that into future, larger orders with no trend support or track record of growth in order size can be a pitfall in thinking.

Comparing to dissimilar businesses
Comparisons that are not “apples to apples” can lead to inaccurate value comparisons. Next to reacting based on emotion, getting a clean comparison for business valuation might be one area where a professional business broker can bring the most value.

“How much I need to retire”

Sometimes a business owner simply figures out what he or she needs and retire and uses that as a basis for valuation. While it is good to know what is required for retirement, it is essentially an irrelevant data point when objectively valuing a business.

There are some commonsense considerations. The less risk and the more growth opportunities there are in a business, generally the more it will sell for. Likewise, a high-risk business with limited growth opportunities will bring a lower price.

A good simple metric to start with is the fact that main street businesses (those under $5 million revenue) bring multiples of anywhere from 1.5 to 5 times earnings, with the most common range being 2-4 times. Some industries, such as medical products or manufacturers of proprietary products will bring higher multiples. Strategic sales can also demand higher multiples, again because of the growth opportunities.

Valuing your business is one of the most important decisions you will ever make. And, the fact is that the price of the business is only one of the key considerations. Two additional items that have huge impact on what a business owner can earn are deal terms and taxes.

Getting an expert, experienced outside opinion and counsel is really important. Work with a broker that offers a complimentary consultation.

Aaron Thom
California Business Advisors