When selling an eCommerce business, we first need to value it properly. Learn how to value an eCommerce business for valuation.
Many people and businesses have had a tough time since the pandemic hit — but one area that hasn’t suffered is eCommerce. Global eCommerce sales enjoyed a 38% increase between the first quarters of 2020 and 2021, and there’s no sign the growth will stop any time soon. With figures soaring so high, it’s only natural for entrepreneurs in the sector to wonder how to value an eCommerce business.
After all, a valuation is essential if you’re hoping to raise funds from investors or for tax and legal purposes — or maybe you’re just curious. Fortunately, whether you have a store on Amazon, Shopify, or even an independent site, there are a few universal methods and tools you can use to help you. We’ll outline them below, and explain which factors have the biggest impact on swinging an eCommerce business valuation.
This isn’t going to be one of those articles where we vaguely tell you that selling lots of products is a good way to increase your eCommerce valuation, leaving you to figure out the rest. No — we’re getting straight to the juicy stuff.
There are two main methods we recommend to help you reach your valuation: the SDE method and the EBITDA method. Once you have a number from one of them, you can use it to reach your final valuation. But before we get ahead of ourselves, let’s take a look at how they both work.
The Seller Discretionary Earnings (SDE) method is ideal for smaller companies with between $500,000 to $1 million in annual turnovers. If you’re bringing in more than that, feel free to skip this section and go straight to the EBITDA method.
This is all about calculating how much money a business takes home in a year after covering its costs. And it does that using a simple formula: Revenue - Cost of Goods Sold - Operating Expenses + Owners Salary.
As we’ve mentioned already, the Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) method is for businesses with an annual turnover of at least $1 million. It aims to do the same thing as the SDE, but the means to arrive at that number is slightly different.
This time, the equation in question is Net Income + Interest Expense + Depreciation Expense + Amortization Expense + Taxes.
Once you’ve reached a figure from either the SDE or EBITDA method, you’re within touching distance of reaching your final eCommerce valuation. But there’s another step: determining your eCommerce multiple valuations. There are a few types of valuation eCommerce valuation multiples, and the one to choose depends on your specific business.
Then, finally, you can multiply either your SDE or EBITDA by your eCommerce multiple to reach your valuation. For example, if you ended up with an EBITDA of $500,000 and a valuation multiple of 2, you’d end up with a valuation of $1 million.
If you’re struggling to reach any of the figures above or get your head around the math, there’s another option — you can use a valuation calculator instead. The Dragonflip calculator will take you through the process with a few simple questions about your finances and brand, and automatically give you an estimation of your internet business’ valuation.
Now that you know the basics of how to value an eCommerce business, we can look at the wider picture by looking at some of the most important determinants of a valuation.
You might think that the older a business is, the better — after all, it shows that a company’s success isn’t a fluke but rather a sign of a sustainable business model. However, this isn’t always the case.
While it’s true that it's a struggle to find a business with just a few weeks or months behind it, many buyers prefer a younger company since it’s a sign that there’s plenty of space to mold it into a new shape or send it in a new direction — and plenty of room for growth.
Only a madman would want to invest in a business that’s part of a dying industry. However, it's also unlikely that an owner would be willing to sell their business when it’s right at its peak, so there needs to be some balance here.
At the least, investors need to know that industry trends are going in the right direction and there’s no reasonable reason to suggest that’s going to change any time soon. Otherwise, they’ll be throwing their money down the drain.
Most people looking to buy companies are doing it as an investment and not as a lifestyle choice — they probably have numerous other investments and don’t want to spend a significant proportion of their time keeping the weeks turning for one business.
Also, if the past owner of a business has been the main reason for a company’s success so far and is the only one who can manage certain processes, it might be too difficult for someone else to take over.
It goes without saying that a company’s financial performance matters. Consider aspects like:
It helps to get an accountant on board to ensure your figures are solid.
Are you selling multiple different product types or focusing on one? If you have a range that spans different niches or industries, it will put investors at ease because it shows you’re not putting all your eggs in one basket.
Also, if you have a solid brand with a loyal customer base, this will also work in your favor.
As you can see, valuing an eCommerce business can be complex, and there’s not always an exact science. But if you at least have a solid understanding of how to value an eCommerce and make some tweaks to the most important determinants, you’ll be well on your way to success.
Or if this all seems a bit overwhelming, you can seek out an expert to carry out this validation process for you.