Thanks to Alan English for the photo!
When you find yourself discussing buying and selling online businesses on a regular basis, you tend to get into a groove of reciting facts and figures without appreciating that as time goes on, they cease to be correct or relevant.
Online or Offline Business: What Is the Cheapest?
Several years back, it was the idea that you could buy a sustainable internet business for 6 -8x monthly net. Those days are long gone and valuations have now caught up with internet businesses that have changed in both their sophistication and size. I’m now firmly out of the habit of reciting that particular guesstimate and have been for around two years, but there’s another change about to happen that could affect the entire industry. It seems it’s no longer cheaper to buy an online business rather than an offline one.
Recently I spoke with Jeff Sosville from Atmbrokerage.com. He acts as a broker for businesses that operate independent ATMs. These tend to be popular with investors because they’re as passive as passive investments come. They are not “passive” in the MMO sense where you only have to spend around 192 hours each week link building, doing social media, writing new content and conversion testing. These are passive in the sense that you simply top them up with cash once in a while.
Our discussion sparked a debate about valuing these kind of businesses and the differences in offline and online valuations. This led to a mini data fest, analyzing numbers from sold offline businesses in the US.
Click here or on the image to enlarge Table 1.
Over the four years documented, the average multiple of a bricks and mortar business fell almost 20%, and continues to do so in the early part of 2013.
The types of business that tend to achieve above average multiples are service companies or retail chains, whilst food and restaurants rarely achieve more than 1.5 x net. There’s also a divide based on the amount of revenue and cashflow each business had. Businesses that achieved annual profits in excess of $150K generally had a higher valuation multiple than similar businesses that were much smaller.
Click here or on the image to enlarge Table 1a.
This data covers the start of the recession onwards, so one explanation is that lack of debt finance and capital available for buyers meant fewer competing parties and ultimately a lower price. Once multiples are driven down slightly in a particular sector, brokers will tend to price new listings according to what’s been recently sold. There’s a risk that this caused a downward spiral, which may level out soon.
On the flip side however, multiples of online businesses in a similar price range have been steadily increasing over the last three years. The following table shows data from brokered listings for internet businesses that sold for more than $50,000 since 2010.
As we only have data for asking prices and not final sale prices, we have to make an assumption that final prices are around 90% of the asking price (consistent with the offline data). We also don’t have information on sales that failed to go through and can only rely on the fact the businesses were after some time no longer listed as being available for sale.
Click here or on the image to enlarge Table 2.
Remember the days of the 6x monthly myth?
Well businesses in the + $50K bracket rarely sold so cheaply, but six years ago 8 – 12x monthly net for an aged internet business with +$100K profits wasn’t uncommon. Things have drastically changed with the average multiple now creeping towards 2.9x annual / 34x monthly net.
Going back to offline businesses, looking at the breakdown of listings by their sale price also hints at the possibility of an emerging trend.
Click here or on the image to enlarge Table 3.
Since 2008, more buyers have moved towards the sub $200K end of the market but it’s difficult to speculate why this is. On one hand, it could be the lack of available finance and on the other, it could be economic factors contributing to more business owners. Apparently, 12% of US adults are now, or at least have been, “entrepreneurs” – up 4% since 2010.
Assuming it’s a combination of both, this could also explain why the amount of buyers looking for internet investments continue to increase, and as such, prices do too. People from all walks of life have begun to realize they can purchase a sustainable business for less than $100K – something that’s difficult to do offline.
This extends to property investors who have recently found themselves looking for alternative investments, after being in a position where they’re now having to finance 50% of a deal – a far cry from the 2008 golden days of no money down foreclosure purchases.
Enough about Buying Pizza Joints and Hairdressers. How does this affect me?
Offline business multiples are set to strengthen, although it’s unlikely that on the whole, they’ll return to their previous values especially whilst being brought down by poor retail and restaurant business performance.
On the flip side, from my experience finding and qualifying internet business leads for online buyers, it’s certainly a seller’s market. There are far more willing buyers with access to funds than there are “good” properties available, so I find it unlikely that multiples for internet businesses will decrease anytime soon.
It’s likely that within the next couple years, it will be cheaper, on the whole, to buy an offline business than it is to buy an online one with similar profits and performance.
At first, that statement seemed a little absurd, but actually it should have always been this way. Whilst some people attribute lower online multiples to increased risk, smart entrepreneurs know how to combat this by making many online businesses less risky than offline one that rely on traditional advertising, retail footfall, or a limited amount of corporate clients that could default within a moment’s notice.
Internet business has the advantage of less reliance on staff, protection from the pain of commercial leases and a freedom afforded to the owner that generally means you can work whenever you like from anywhere in the world with internet access. It makes sense that as people’s awareness of working online grows, this is likely to become a more popular option.
I’d love to end this on a positive note, but here I’ve nothing much to add to the fact that the honeymoon we’re all in will probably soon be over. On the upside, if you’re reading this it’s likely you’re already aware of the benefits that an internet business can offer so you have a significant headstart.
If you’ve been undecided about investing, now could be a good time to take action and buy a business that will continue to give you not just an income, but an appreciating asset over the next few years. It’s likely that what we can buy now won’t be available at the same price even 12 months down the line.
Over to You
Have you noticed a steady increase in online business prices yourself, or do you have an insight into why offline multiples seem to be steadily decreasing? Leave a comment and let us know.