When is buying a business worth it?
Thanks to a great subscriber question, a lawyers take on calculating business valuations and deciding when it's worth it
Continuing on the topic of buying businesses because Basta responded with a great question:
“I am curious about the basic math. How should I calculate the value and if the investment is worth it?”
Great question.
As usual, there are a few ways to do it and a few ways you could approach it.
Caveat: I’m not an investment banker or business broker, so take all of this with a grain of salt, but I do have some experience from selling a small business, raising money for our immigration tech company at Visto, etc.
Anyway, first is on calculating the valuation of businesses. There are tons of books, guides and even entire courses or programs on this so I won’t dive deep.
What I will say is there is no perfect way to value a business because it largely depends on the type and size of business.
For example, I have some minor experience buying/selling law firms. In the case of a law firm, or related service based businesses where there aren’t really any assets like equipment, patents, real estate, etc., and most of the value is in the “book of business” (aka the list of clients), it’s usually easiest to sell at a multiple of top line revenue. A good average might be between 0.7 and 1.5.
So for example, for a very valuable law firm you might offer 1.5x their revenue from the last 12 months. For a crappier law firm you might offer 0.7x. For a much bigger law firm you may prefer to do a multiple on net profit or EBITDA, or maybe not.
And always remember, another reason why there’s no perfect way to do this is because even if you come up with a “fair” offer by all measures, the other party can simply say “no”.
Just to compare, a B2B SaaS company like ours at Visto, where we sell software to law firms who pay us a monthly recurring fee, has a much higher multiple of either revenue or EBITDA or profit. For example, a multiple of 3x to 5x top line revenue might be more fitting if you’re looking at buying or selling a B2B SaaS company.
Lastly, how will you know if the investment will be worth it?
Again, I hate to pull the classic lawyer “it depends” card, but it depends :P
Some good questions to consider might be:
if you’re going to buy the company for X, and it generates Y profit, how many years will it take to break even on the purchase? Is that worth it for you? How else could you deploy that cash that could generate as much or more profit for your business in less time?
what improvements can you make to this business on day 1 after you buy it that can increase revenue, decrease expenses, or otherwise grow the profit?
does this new business combine well with my current business(es)? For example, can you cross-sell products or services from your current business with the new one? Can you share expenses between your current biz and the new one (ie. you already have a bookkeeper for your current business, you can use them for the new one too and cut that cost from the new biz)
will you have the time and focus for the new biz? Maybe the financials make sense, but this new biz is so different and disconnected from what you’re currently doing that it’ll stretch you too thin
will buying this new business allow you to take home more profit in the next 5 years as compared to what you’re currently doing/building?
As you can see there’s a lot to think about and I could go on and on, but I’ll leave it at that. Should be plenty to work with.
Have a great day,
- Josh Schachnow
Canadian immigration lawyer, CEO at Visto.ai
P.S. in my last email I asked if I should open up my calendar to you fine folks for some business networking chats. The poll was overwhelmingly positive, and so I must be a man of my word and obey my loyal subscribers.
I threw together a booking link for you, my substack subscribers only, in case you want to book a quick chat with me to network, ask questions about your business, etc.
Note: there are only a few slots each week and it’s for serious entrepreneurs only. If you don’t join on time or have any serious business stuff to discuss then I won’t hang around for too long. But for those who want to chat business, bounce ideas around, ask me questions about your biz, you can (for the next few weeks only) book a chat with me here.