You started your business to create a better life for yourself and your family. You’ve dreamed about having that life-changing exit that brings you financial freedom and provides a better life for your family.
Now, you got to the point where you are running a 7-figure eCommerce business and seriously considering selling it.
You’ve put years of hard work and literal blood, sweat, and tears into this business.
And this is your first time embarking on the journey of selling a business.
With the stakes being so high and the fact that most people will have one – maybe two successful business exits – in their life, you are feeling unsure about where to start, what to do, and what things you don’t even know you don’t know.
In this guide, we’re sharing a financial perspective on how to prepare for an eCommerce business exit.
Overview: What’s the market like right now for buying and selling eCommerce businesses?
While this past year might be the craziest and most turbulent year many of us have experienced, the state of the eCommerce business valuations has never been better.
In fact, we reached out to Greg Elfrink of Empire Flippers, a business brokerage, to ask what they are seeing in the market.
Greg says, “Most people think that like, “Oh, everything is on fire. Everything’s terrible. So business prices must be terrible.” But actually it’s been very much more the opposite, which surprised us as well, actually.
Some businesses did shut their doors. So they’re obviously no longer valid, but they’re not making any money, but the e-commerce businesses are still on our marketplace. They’re getting record levels of website traffic and record levels of sales.
It’s just blowing up. If anything, the actual seller’s prices for these businesses has gone up pretty significantly, and that’s not just in e-commerce, that’s like almost every business model that we sell.”
Part 1: Getting your eCommerce finances in order
Identify why you want to sell
The most important two questions you can ask yourself are:
- Why do you want to sell?
- What would be a life-changing amount of money for you?
This is because when you have clarity around why you want to sell and the amount of money you’d need to have a life-changing exit, it informs everything else.
The next step is taking a closer look at your business’s balance sheet and being honest about the state of your business.
Is your business worth selling in the near future?
Greg says, “Look at your net profit over a 12-month period. Find what your average net profit is. Say it was $10,000 a month, and then multiply that by say 34, and if that number excites you. So, $340,000 in this example. If that’s a number that’s like, “Wow, that is really interesting. I could do a lot with that money. I would love to get that capital windfall, change my life, or lifestyle upgrade.” Whatever it is, if it excites you, that is the first sign that you might be getting to a point where the business is something you would want to sell. Because that’s a fairly conservative multiple.”
Does your definition match what a buyer thinks of as a “good business” to buy?
Assuming your business is 100% legitimate and you aren’t engaging in any shady or spammy tactics, the answer is it depends on the buyer.
Every buyer is going to have their own criteria for what they are looking for. For example, some might be looking for strategic acquisitions to add to their business or portfolio. Others might be looking to buy a cash flow asset that they can grow and retire on or use their skills to rehab a declining business.
Can you sell a business that is declining?
“That is a common myth where entrepreneurs think that no one wants to buy a declining business, but that is like a story sellers tell themselves sometimes,” says Greg. “Because when a seller goes to sell their business, their knee-jerk reactions to tell the buyer everything is perfect in this business, which is actually a bad move.
Even if everything’s going well in the business or if the profits are rising, you shouldn’t say that because there are always challenges.
There are always mistakes, there’s always problems and issues, and that is what builds the potential in the buyer’s mind.
A perfect example of something like this is, we’ve sold businesses that had Google penalties, for example, where their organic traffic was way down. The seller, for the life of them, could not figure out how to lift this penalty. Well, we have several of these buyers actually that specifically comb our marketplace looking for traffic graphs that look like they got hit by a Google penalty because they know how to fix them. In fact, they actually don’t even fix the Google penalty. They use an agency. They just buy that business basically on discount, and then they can fix that Google penalty problem.
All the traffic comes skyrocketing back, and so does the profit.
Declining businesses can very much be sold. Obviously, you’re going to get a lower multiple than, say, a business that is on the rise or with a good steady net profit but a 100% sellable. It just all depends on the buyer criteria.”
The whole game is transparency and clarity. Where you have known issues, get proactive and in front of those issues and provide the business drivers. For example, it might be your lack of expertise in effectively growing and scaling Facebook ads. It may be a poor hire that you brought into the business. It could be a competitor that you are aware of selling a product at a loss for a short period of time, but you were able to see growth in your product as the months went on.
The ability to be proactive and communicate what isn’t going well is critical. The questions will be asked, and they can be used against you in reducing your sales multiple at exit.
How to get your business’s finances in order
The keys to getting your finances in order are presentation and organization.
It is critical that you have well-presented financial reports. If you can show organized and detailed financials, it speaks to the fact that you are likely to be organized in the way that you run your business. It also creates added clarity.
For example, what’s the opportunity against certain sales channels?
In addition, a buyer will want to understand what margins you are making in specific sales channels. Is there additional opportunity to squeeze more margin?
Most people go to tax accountants and CPAs to provide financial statements to address the profit they will then pay taxes on.
However, when you are looking to sell, your financial statements should reflect the profitability of the business, show the various sales channels, customer acquisitions costs, and investments made in the business. Your reports should reflect the state of the business as well as the opportunities for how a buyer can further grow it.
The last part is understanding the seller’s discretionary expenses that have been rolled into the business. A lot of these are done for tax purposes. However, when you are going to sell your business, you want your business to maximize profit. So, you can add back any discretionary expenses. When you work with an accounting and bookkeeping firm, like Bean Ninjas, we’ll group all of these seller discretionary expenses separately. This gives a really clear view of all of the addbacks, which builds trust.
The fastest way to derail a potential sale is to have messy accounting practices and books. Ideally, your books should be organized from the get-go. However, that’s rarely the case in our experience.
If you are planning on selling your business in the future, you should start the process of cleaning up and keeping your financial reports in order at least 18 months before you are planning on selling (and ideally 3 years before!).
The first part of that is de-tangling the business you are trying to sell from any other business entities you may own as well as your personal finances. This adds another layer of clarity for a potential buyer and can even lead to a higher sale multiple.
The next part is cleaning up your Profit and Loss Statements (i.e. P&L Statement or Income Statement). When you go to sell your business, you are going to need accurate information from a minimum of your last 3 annual P&L statements.
Greg says, “I actually recommend Bean Ninjas all the time for this. I tell entrepreneurs, if they decide not to use us, then you should go and use an accountant or bookkeeper like Bean Ninjas to make your P&L statement actually clean and good because this is where most eCommerce entrepreneurs mess up.
They have this P&L that is really dirty because most of them are creative solopreneurs, and they’re not necessarily good at bookkeeping. We get a lot of businesses that come to us that we build their P&L, and they realize like, “Oh, I’m making much less money than I thought I was.” So that’s a key element there too.”
In addition, you’ll also need the following at a minimum:
- Your balance sheet
- Cash flow statement
- Number of SKUs
- Value of inventory you currently possess
- Number of suppliers and the current state of the relationship with each one
- Monthly operating expenses
Pro Tip: Looking for a crash course in all things eCommerce accounting? Check out our detailed guide here.
In addition, one eCommerce entrepreneur, who asked to remain anonymous, shared some tips from his first-hand experience.
- 1. Be on accrual based accounting as early as possible.
- 2. Know your profit margin.
- 3. Cut your expenses. Again, since you sell as a multiple of your profit, cutting expenses pays multiples.
- 4. Have a bookkeeper. You’ve likely got bigger fish to fry and the sales process will add to your workload immensely.
Part 2: How to get the best possible valuation
When you sell your business, it is natural to want to get the best possible valuation. Most entrepreneurs are lucky to go through one successful business exit in their lifetime. You don’t get many second or third chances to do it again.
Depending on if you sell direct, through a marketplace, or using a broker (We’ll share more on that later in this post), there are different ways to value an eCommerce business.
Here are three strategies for setting an eCommerce business listing price.
- Seller’s Discretionary Earnings is one way to value a business. – Here is the formula for calculating the valuation:
Revenue – COGS – Operating Expenses + Owner Salary = SDE
- Another way is The EBITDA Method. The formula for calculating this is:
Revenue – Expenses + Depreciation + Amortization
- A third method is to go off Average Monthly Net Profit. For example, Empire Flippers set valuation prices based on this formula.
[6-12 Months’ Average Net Profit] x Multiple (Typically 20–60+)
Pro Tip: A quick note on finding your earnings multiple. The average multiple, according to Digital Exits, was 3.07. This number has increased each year since 2014.
What additional factors go into determining a valuation?
This process of valuing a business is complex and spans every aspect of your business. We couldn’t possibly cover every single thing in one post, but here just a small list of key factors that can either increase or decrease your valuation.
- Financials – Are your books clean? Does your P&L accurately reflect the state of your business?
- Operations – Do you have a team and well-oiled systems and processes?
- Owner’s involvement – How involved are you in the day to day running of the business?
- Products – How many products do you have in your catalog? How diversified are your revenue streams? Do you have 1 or 2 products that make up the lion share of your revenue?
- Marketing – How are customers finding you? Are you heavily reliant on one traffic source/channel, like organic search, Facebook ads, etc?
- Customers – What percentage of customers make repeat purchases? How many 4 and 5 star reviews do you have? What’s your return/refund rate? How many chargebacks do you get?
- Legal – Do you have any intellectual property (IP) like trademarks or patents? Do you have proper contracts and work-for-hire agreements in place? Have you been sued in the past? Do you have any active legal disputes or investigations?
- Age of the business – How established is your business?
- Inventory – How much inventory do you currently possess? Most eCommerce businesses include enough inventory to keep at the current growth rate in the business valuation. However, if you just bought a ton of inventory or have a large amount of excess inventory (read: unsellable, returned, or damaged products), that needs to be factored in separately.
- Another key factor in your valuation price is how you handle add-backs. Add-backs are essentially business operating expenses that add back into the “profit” of the business. As you can imagine, this can lead to a fair number of questions and disputes around if that add-back was actually essential or not.
Here are some of the most common add-backs:
- Extra salaries on the payroll – One way to reduce your tax burden is to pay a small amount to a spouse, high school or college-aged kid, or relative to help with the business. This person is compensated above the average rate for their skillset and not really working in the business.
- An extravagant owner’s salary – If a business is doing well, it is pretty common for an owner to pay themselves well. They might pay themselves $350,000 each year, whereas hiring a CEO to run the business might only cost $150,000. In this case, you can subtract the difference as an add-back.
- Website redesigns – Upgrading your Shopify theme or doing a full website redesign can often be added back into the business.
- One-off legal expenses – This is pretty self-explanatory. If you paid a lawyer to handle a dispute or create a bunch of contracts, you can add these expenses as “add-backs.”
- Owner’s personal expenses – This can include everything from a premium health insurance plan and life insurance to gym memberships and your Spotify subscription. If the expense is tied to optimizing your output and not essential to the business, you can write it off.
What are the valuation differences between FBA and other eCommerce businesses
Another factor that goes into setting your valuation is what type of eCommerce business you are running.
For example, Amazon FBA businesses tend to get lower multiples than, say, an established omni-channel eCommerce business with a thriving Shopify store that also sells on Amazon, Walmart, and has multiple wholesalers.
“Amazon FBA would typically get a lower multiple than a Shopify store, but there’s a lot of caveats there,” says Greg. “That is not true at the moment (Q4 2020). Amazon FBA is actually getting a better multiple because there are so many institutional buyers coming in. These are people who have raised hundreds of millions of dollars to buy Amazon FBA businesses specifically.
There’s more of these buyers coming into the marketplace. Thus, the demand for them is going way up, which is pushing their multiple up. But a traditional eCommerce store that’s not drop shipping, so one where you are actually sourcing your own product, you have your own eCommerce store, can get some of the highest multiples if it’s a high-quality business because you control everything.
The greatest strength of an Amazon FBA business is you get to leverage all the power that is Amazon, but that is also its greatest weakness because you’re playing in someone else’s pool at the end of the day. They can do anything they want on their FBA program. Just Q1, they made it so no non-essentials could come into the warehouse, and that did kill quite a few FBA businesses.
Luckily it was right around the Chinese New Year, so a lot of FBA entrepreneurs are already stocked up knowing that China is going to be shutting down for a long period of time, but there are definitely businesses that are playing too close to thin inventory as a cost-saving thing. Then they got screwed, and now they don’t really have a business. Some of them got back, but they don’t have the same organic position anymore. This is one of the issues with Amazon. They tend to get a lower multiple, but demand has increased so much their multiple is actually better than a more traditional eCommerce store.”
Pro Tip: Looking for a quick valuation estimate? Check out this free valuation tool from Empire Flippers.
Part 3: Selling an eCommerce Business
So, you’ve done all of the hard work to build a business that’s worth selling, and your finances are clean and in order. Here is what the actual process looks like.
Should you sell direct or use a business broker?
The first big decision you have to make is whether you want to sell direct or through a business broker.
Selling direct is often cheaper since you don’t have to pay a commission to a broker. Often times, your only fees are working with lawyers.
However, this also means that everything is handled by you, from finding a buyer to negotiation, due diligence, and transferring assets.
For example, this is the route that Andrew Youderian went when he sold an eCommerce business in 2014.
Now, if you are a serial entrepreneur with a large Rolodex, and this is your 3rd or 4th successful exit, it might make sense to sell direct. However, with rare exceptions, a first-time eCommerce seller is almost always better served to use a business broker.
A great business broker acts as your advisor and works with you from setting a listing price and vetting buyers to negotiation and even in some cases migrating / transferring the business over to the new owner.
The drawback is that this isn’t a free service. A broker will take up to about 15% of the sale price as a commission fee.
Greg says, “In my opinion, the advantage of not using a broker is you don’t pay the commission fee, but a good broker usually is going to get you a better price that’s so much better than what you probably would have gotten by yourself. Even when you take out the commission fee, you’re still walking away with way more money.
We have people that say like, “Well, why don’t I just sell it to one of these institutional buyers, who’s raised all these millions of dollars without going to you.” That’s a fair statement, but the problem is all of those buyers shop through brokers. All of them are in our marketplace. Like why wouldn’t you want these institutional buyers with high liquidity competing for your asset? Make them go into a bidding war. You’re going to get more money at the end of the day. That’s a much bigger advantage.”
Another advantage of why a first-time seller might want to work with a broker is to take advantage of the broker’s network of potential buyers.
“Selling a business is a highlight event in most entrepreneurs’ lives,” says Greg. “You do it maybe one time. If you’re really prolific, maybe upwards to 10 to 12 times, but it’s not something you do every week. You get to be advertised to our huge buyer network. You get to take advantage of all of our traffic. You get to take advantage of our sales team that is negotiating on your behalf, so you’re not on calls all the time, get to use our systems, etc.”
Another benefit that is unique to working with Empire Flippers is that they handle the migration process.
Greg adds, “There’s also the migration phase, which most brokers don’t do. We’re the only ones who do it, where we actually migrate over the business to the new owner, and we make sure everything is good on both sides, and manage your earnout.”
What to know if you decide to list with a broker
Any credible business broker will do their own vetting process before they list your business.
“In the vetting process, one of the main things we’re looking for is to answer the question, is this a legitimate business,” says Greg. “There’s a lot of internet scams out there, especially for businesses that are $50,000 or lower. That’s where most of the scammy businesses are. Now to be fair to our sellers, the vast majority of them have nothing going wrong with them in terms of being nefarious.
Usually, it’s like honest mistakes that they make. We want to look at their analytics. Does it look clean? Does it look like it’s actual traffic or bot traffic? Is it real people basically coming to this site or to this Amazon FBA store, eCommerce, or whatever it is. And then look at their P&L. Does it match with their traffic? Is there like a super big spike on their analytics, but that doesn’t really show up in the P&L. Why is that?
We want to answer those kinds of questions. We also want to make sure that the seller themselves is a legitimate person. We have talks with them to make sure that they’re real, which sounds super simple, but sometimes internet marketers are very cloak-and-dagger. They’re like hiding themselves behind a variety of personas. We make sure that they’re real legitimate sellers so we are going to be presenting a business as well as a business seller that is attractive to the buyer. That’s the main thing, is this business legitimate? That’s what we’re looking for.”
What does the actual selling process look like?
While the process might vary a little bit, the general process of selling a business looks something like this:
First, the seller creates a prospectus sharing all the pertinent information about the business.
- List the business
- Vet buyers.
- Sign a Letter of Intent with a vetted buyer (LOI).
- Enter the due diligence process
- Close on the business
- Migrate and transfer all assets to the buyer
If you are using a broker, the average time to sell a business is between 30 – 90 days.
Communicating with potential buyers
One of the biggest mistakes that first-time sellers make is trying to make it look like their business is “great” and selling the potential that it could be even bigger. This can actually be a disservice and create distrust between the buyer and seller.
Inevitably, something may come up – usually during the due diligence process- and this can blow up the entire deal.
“A lot of sellers want to say that nothing is wrong with their business, and they want to sell the business on potential,” says Greg. “I’ll give you an example. It would be like a seller saying, “Hey, this is the next million-dollar Amazon FBA business.” And then the buyer’s like, “Well, that’s great, but your P&L tells me it’s a $100,000 business. The seller is like, “But there’s so much potential in the idea. There’s all this market share.” All this stuff and they’re selling the dream to the buyer instead of the reality of the business, which is a big disservice to the seller because of what’s going to happen there. The buyer’s going to be like, “Okay, well, if this is a million-dollar idea, I agree with you. I will give you $10,000, and then I will give you an extra like 800,000 or $900,000 once it becomes a million-dollar deal.
You believe in it so much. Let’s do this crazy earnout. Sellers will often do themselves a disservice in that way. You never want to sell a business based on potential. You always want to sell it based on the reality of where the business is, and you want to remove your emotional equity as well.
This is very common with first time sellers, where they’re like, “No, my business is worth way more than this.” But it’s not it. It’s objectively not worth more, but they think it is because they have this emotional equity in the business because maybe that business is what set them free, allowed them to travel the world, spend more time with a family, all this amazing stuff but while all that stuff is amazing, the arithmetic of a buyer is going to be a lot colder. Because they’ll be happy for you that it did that, but they’re not going to pay a premium because it did that for you.
You have to separate that emotional equity. Don’t sell on potential, and if you really want to get a buyer to start dreaming about what is possible when they take over your business, mention the mistakes and the things you weren’t good at because by mentioning those mistakes, you’re basically building the opportunity in that buyer’s mind and now he’s going to sell himself on the potential because he sees all the things he can fix.”
What’s the difference between a broker vetting process and the due diligence process?
If you list your business for sale with a broker, the broker will do their own vetting process. This vetting process ensures that the business is legitimate, the analytics and revenue numbers look correct, and there aren’t any major red flags. This isn’t designed to be a comprehensive audit of the business.
Now, when a buyer expresses intent in buying your business, that’s when you enter the due diligence process.
In fact, the due diligence process is similar to the inspection process when you buy a house. Most people don’t buy a house without a thorough, third-party inspection. An inspection can catch if there is a black mold situation in your basement or a termite infestation on the second floor of the house that has compromised the structural integrity. These are issues that you might want to know before you buy a house.
The same applies when it comes to buying a business. You want to make sure all of the financial and business details check out, and there aren’t any big issues that the seller is trying to sweep under the rug like a Google penalty, having an Amazon Seller Central Account shut down, or there aren’t any open fraud cases.
So, the due diligence process is a much more comprehensive audit and appraisal, and the buyer basically has free reign to investigate the business for a specific time period before closing. This process is in-depth and spans all areas of the business from Business Structure, Taxes, Team, Operations, Customer Service, Sales, Marketing, Legal, Supplier Relationships, and more.
While this example is from a 7-figure SaaS business, it is not uncommon for a buyer to ask more than 100 questions. Some of which might require you to dig up documents and spreadsheets from when you first started your business.
Greg adds, “Due diligence is very different in that it is unique to each buyer. Each buyer will have a different set of criteria for what they consider to be a good site.”
Closing the sale
Assuming the due diligence process all checks out, it is time to close the sale.
Depending on the price of the sale and who is buying (individual vs. private equity (PE), there are multiple ways to finance the purchase, which include:
2. Seller Financing
For most six and low seven-figure eCommerce deals, you are going to be looking mainly at either all cash or seller-financing.
Note: Seller financing is essentially when the buyer takes out a mortgage from the seller and pays off the sale in installments.
When you start getting above $5M, that’s where earn-outs tend to be more common. This is where a seller has to “earn” a portion of the sale price based on future performance. This can include everything from not working in the business anymore but being paid out the remainder in increments based on hitting certain revenue targets. Or, it could require that the founder works in the business as an acqui-hire for a set period of time post-sale.
In addition to the financing aspect, there is also the major project of transferring ownership of the business from the seller to the buyer. This includes transferring ownership over all domain names, email accounts, software used, Amazon Seller Central account, Shopify account, changing out any affiliate links, as well as training the new owner (and/or their team) on how you run the business. It is not uncommon for this process to take anywhere from 30 – 90 days. And sometimes even longer to complete.
What to do post-sale
It is common to experience a wide range of emotions after you sell your business. This is a thing that you likely worked on for years – maybe even decades. Suddenly, you have a large amount of money in your bank account and a whole bunch of free time.
For someone who has never experienced a successful exit, this can sound like the dream. You have financial freedom and can sip cocktails on the beach every day.
However, there is a good chance that if you are the type of person who can build a business from zero to a life-changing amount of money, you are probably going to get bored by the idea of doing nothing relatively quickly.
If you are not prepared for what you want to embark on next, you can wind up without a sense of purpose and even become depressed.
This is also why it is so important to understand why you want to sell long before you enter the process.
Here are a couple of great books that can help you think through this process.
- Before the Exit: Thought Experiments for Entrepreneurs – Dan Andrews
- Finish Big: How Great Entrepreneurs Exit Their Companies on Top – Bo Burlingham
In sum, getting your eCommerce business to the point where you are thinking about selling is a massive accomplishment in its own right. The experience of selling a business is something that you are likely only going to experience once – maybe twice – if you are lucky. That’s why it is so important to be methodical and educate yourself on every step of the process to ensure the best possible outcome.