Metrics That Matter
As a founder or current owner of a business, sellers should have a detailed understanding of the business for all that it is and is not. Most owners only look at 3-5 items on a monthly basis that determine a good or bad month or year.
This can be as basic as revenue and expenses, but I would wager that there is more to it for most owners. These key metrics will be critically important for a buyer since the seller has learned through time and effort that these metrics determine success. Certain types of businesses may not lend themselves to be evaluated by these specific metrics, but this should be a great place to start. Here are a few that we think are generally important for all business.
Seller Discretionary Earnings (“SDE”)
SDE is a less formal business valuation method. It is a calculation of the total financial benefit that a single full time owner-operator would derive from a business on an annual basis. Generally, it is used for evaluating businesses with gross annual sales that are under $1,000,000. Most valuations are based on a multiple of SDE versus EBITDA, which is what most people hear about regarding valuation. (Ex. $100,000 of SDE times a multiple of 4x SDE would equal a sale price of $400,000)
Compound Annual Growth Rate (“CAGR”)
CAGR is a mathematical formula that provides a "smoothed" rate of return. It is basically a pro forma number that tells you what an investment yields on an annually compounded basis, indicating to investors what they really have at the end of the investment period. Most buyers will want to see a 3-year CAGR because they can assume future projects based on that rate.
Operational efficiency is primarily a metric that measures the efficiency of profit earned as a function of operating costs. The greater the operational efficiency, the more profitable an entity is because it is able to generate greater income or returns for the same or lower cost than an alternative. Having a superior operating efficiency tends to only work for companies with a strong brand and/or a competitive advantage.
Organic traffic is used for referring to the visitors that land on your website as a result of unpaid search results. Being able to show a buyer that you have strong organic traffic usually means your brand or SEO is better than many of your competitors.
Customer Acquisition Cost (“CAC”)
A simple version of CAC can be calculated by simply dividing all the costs spent on acquiring more customers (marketing expenses) by the number of customers acquired in the period the money was spent. For example, if a company spent $100 on marketing in a year and acquired 100 customers in the same year, their CAC is $1.00. A lower customer acquisition cost can help a seller get a premium valuation for the business.