A lot of business owners start to slow down as they approach retirement and the performance of their business often follows their level of effort. Then they hear that they can sell their business and potentially get 2-3 times their annual income paid up front, and their business can carry on under someone else’s ownership and management. This may or may not be true. Yet, they could make so much more if they had planned ahead, and prepared to sell their business in advance. How far in advance? At least three years.
Here’s a scenario using simple math:
For 15 years the business would make $120,000 in net profit annually. This meets a minimum threshold for a multiplier of at least 2 when calculating the value of the business. That means that when the business is listed for sale for about $240,000 if they sell at the peak of the business.
Yet, for the last three years of operations, the business owner started to slow down, so the business made $98,000 a year. This does not meet a minimum threshold for a multiplier, which means the business is listed for sale for $98,000.
There is much more that goes into a Business Valuation, but these simplified numbers should be enough to demonstrate the point. There’s a big difference between $240,000 and $98,000. If the seller prepares, they can sell for more.
The valuation is calculated using data from the last three years. It’s not enough to have one good year. It helps the valuation if the income from the last three years has an upward trend, and it hurts the valuation if the income has a downward trend or is not consistent from year to year.
If a business owner wants to sell the business and get the most they can get for it, then they should make their last three years of business their best three years.