What’s Your Business Really Worth?

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November 17, 2005 by Dane Carlson | 2 Comments

Inc.:

But it’s not just the fast growers who think their companies are worth more than they really are. Consider a deal that was brought to my attention a few months ago by my partners in the document destruction business, Bob and Trace Feinstein. They’d heard about a smaller company that was looking to be acquired. The owner was asking for two times annual sales, or about $1.2 million. Since other document destruction companies had been selling for three times sales, Bob and Trace thought we ought to buy it. But they were making a common mistake.

You can’t value a company simply by looking at its sales. Yes, every industry has a rule of thumb for doing valuations and usually it’s expressed as a multiple of sales, but that’s a matter of habit and convenience. What most buyers are interested in is something called free cash flow, and free cash flow is a function of profit, not sales.