When selling a business, turnover figures often catch the eye of potential buyers, but they’re also one of the most misunderstood metrics in valuation. There are plenty of different things to think about in preparing your business for a healthy and effective sale. And it is important to look at business turnover because this is a useful measure of the overall health of a company.
But too often, it is confused with another metric: profit.
If you’re buying a business for the first time, you’ll come across terms like business turnover and other figures that also use the word “turnover.” Since each has a different meaning, it’s important to understand how to value a business using turnover as reported by the seller. In this section, we clarify the key turnover terms and other related metrics you’re likely to encounter in due diligence documents.
Financial Turnover
When you position your company as available for sale, you’ll need to do everything possible to present the strongest financial picture to an intended buyer who knows the value of a business on turnover for certain periods. Turnover, of course, is distinct from profit. The turnover is the total business volume and income during a specific period of time, or the net sales figure.
Profit
Profit refers to the earnings that are left over after all the expenses have been deducted. A buyer of your business will likely be interested in both the turnover and profit. Recognize that there are two different ways that profit can be measured: Gross Profit & Net Profit.
Turnover Rate
Not to confuse this with business turnover, in business, the turnover rate refers to the number of employees who left the organization in a given financial year or over a period of time. It’s helpful to know your own employee turnover rate so that it can be included in the financial picture of your company when you prepare it for sale.
Let us delve deeper into what is business turnover value and how it is used by companies who are looking to sell.
In simple terms, the business turnover value is the total sales generated by the company in a given period. It can also be referred to as Gross Revenue. For a buyer, it makes sense to value business based on turnover if the company is still new or if the operations are simple.
If you do not know how to value your business based on turnover, there are competent business brokers who can help you with this.
When you decide to prepare to sell your business, knowing the correct value of your business is important. That said, there are many ways to get your business valuation and probably the easiest method is to value a business based on turnover.
How to value a business based on turnover? It’s very simple. Here are the steps:
It must be noted that valuing a business on turnover will only make sense if the business has an uncomplicated structure. This method does not work for all types of businesses.
So now the most important question for you is how do you value a business based on turnover? We use a formula for this as shown below:
Business Turnover = Weekly Average Sale * Generally Accepted Sector Multiplier
Where:
Weekly Average Sale = Total Sales in Operation / # Weeks Business is in Operation
Note: If the business is Vatable, the VAT amount must be removed from the calculation.
Generally Accepted Sector Multiplier:
The revenue multiple used is not definite but only serves as a general guideline accepted for the use of computing the turnover. For example, the multiplier used for coffee shops or cafes is 20 weeks.
If we compute the business turnover of a coffee shop for sale assuming they have a weekly sales average of $12,500, then the business turnover is $250,000 ($12,500 * 20 weeks).
A common question that is asked frequently by business owners to business brokers is, how do you value a business on turnover? This question was already answered in the section above but this method of valuing a business is not a definite measure.
Turnover shows how much revenue flows into a business, but it doesn’t reveal what’s left once the bills are paid. It’s not uncommon for a company to post impressive sales numbers and still lose money because rent, wages, or production costs eat away at the margin. For that reason, buyers treat turnover as only part of the story. What really matters to them is how well those sales convert into actual profit as well as the dependability of cash flows. Viewed in isolation, turnover can create the illusion of strength while masking deeper financial weaknesses.
Business Turnover Value Can Sometimes Not Be Realistic
If the valuation of the business is based solely on sales and its related industry multiplier, then the value of the business computed can turn out to be unrealistic. Some industries use high multipliers even if the weekly sales average is low and this can skew the result.
Diverse Revenue Streams
Computing the turnover can be challenging if a business has multiple revenue streams. However, this is beneficial for the seller of the business because this is one of the ways to ensure that the business is stable.
Industry Benchmarks
The business turnover requires an industry multiplier to compute its value. Since the turnover refers to only the total sales, then having to benchmark the turnover value to similar industries can be more reliable as compared to using general benchmarking criteria.
Incomplete Financial Records
The most important data to compute for the turnover is the sales report. Not having the right financial record will affect the entire business turnover computation.
Future Profitability
Business turnover is computed based on historical data. What is not included is the growth potential of the business. Without including this in the criteria for business valuation, then the pricing of the business will not be as reasonable as it should be.
Now you have learned how to value a business on turnover, it is now time to interpret these numbers. In many cases, when intended sellers reach out to us to get help from a business broker, they already have a strong financial picture and many of the details gathered. Deciding whether now is the right time to sell your company and the appropriate method of business valuation could lead you back to the drawing board to look for some ways that you can tweak the overall success of the business so that it is in the best possible position to be sold at a future date.
Having the turnover number alone is not enough to determine the value of the business. To better interpret it, other factors must also be taken into consideration such as:
Turnover reveals how dependable and scalable a business really is. When this metric is strong, it can signal the following:
When these aspects are observable in a target company, potential buyers will perceive it as a business that has great room for growth with minimal risks involved. They also make the company more attractive in valuation discussions. High turnover backed by predictable, diversified revenue streams gives buyers reassurance that it’s a worthwhile investment.
On the other hand, weak or inconsistent turnover figures will make buyers doubt the deal. They may worry about the following:
Buyers will look through the raw figure to see whether the figures come from recurring contracts or a few concentrated customers.
When turnover looks inflated or unstable, it may reduce confidence and lower the target company’s perceived value.
Undeniably, looking at the target company based on turnover is an excellent starting point when conducting a business valuation.
Our business brokers are thoroughly experienced in helping many different business owners move through this process and get the support that they need. Contact our knowledgeable business brokers to discover more about whether now the right time is to sell and the steps that you can take to prepare yourself.
There is no exact answer, as you need to refer to the standards set by the U.S. Small Business Administration (SBA) as well as your local business body. Business turnover will be among the indicators, but it’s not the only measure.
It’s an excellent figure to be compared with other metrics as a method of finding ways to lower your operating costs. It also gives you the chance to fix your business to make it financially efficient.
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