Posted: Mon 29th Jul 2013
Many of us dream of building a business that we sell for millions before retiring early to a life of ease and luxury. But how realistic is the dream? Robert Kemp, managing director of business broker Select Business Sales, offers his insight from 20 years buying and selling private companies in the UK market.
One of the motivations for many entrepreneurs setting out in business is to eventually sell their company for a life-changing amount of money. That might be a million pounds, 10 million pounds, or enough to buy a private island in the Caribbean depending on their lifestyle aspirations.
But just how big a company must you build to sell for money on this scale?
The truth is many entrepreneurs can be spectacularly ill-informed about the selling prices really achieved for private companies. In fact, private companies sell on far lower multiples of profit than the giant companies that dominate the financial pages of the business press.
What does this mean for you?
Well, you may well have to build a far bigger company than you think to retire in style!
Understand the multiples
A multiple of profit or cash flow is the starting point for calculating the value of most private companies.Â Any number of internal or external factors can reduce the actual price achieved, Â but in the end it comes down to profits generated in the last few years. So what multiples should be applied when putting a value on a private company? As an active UK business broker, these are the multiples of recent operating profit before tax we use as a starting point when calculating the value of a business:
For companies with sales less than £1m per year, and profits less than £100,000 per year, two to three times operating profit before tax.
For companies with sales between £1m and £5m per year, and profits between £100,000 and £500,000 per year, three times operating profit before tax.
For companies with sales between £5m and £20m per year, and profits between £500,000 and £2m per year, progressively from three times to six times operating profit before tax on a sliding scale.
For companies with sales of more than £20m per year, and profits greater than £2m per year, multiples for manufacturing and service companies with strong brands or other intellectual property might increase to eight to 10 times operating profit before tax. For distribution companies, multiples tend to stay at six times operating profit before tax.
What you need to make a million
So what does this mean for the entrepreneur with expensive retirement aspirations?
To sell for £1m after taxes and costs you will need to build a business making at least £400,000 profit before tax each year, which probably means at least £3m turnover.
To sell for £10m after taxes and costs you will need to build a business making at least £2m profit before tax each year, which probably means at least £15m turnover.
Nobody promised it would be easy to get rich!
Robert Kemp is managing director of UK business broker Select Business Sales, which specialises in exit and retirement sales of private companies.