Clicky

The how and why of buying an online business

how and why buying an online business

 

Online businesses are a huge industry nowadays, with the ubiquity of the internet meaning that online firms are a cornerstone of the economy and comprise a significant portion of the entire business community.

While the fundamental principles of acquiring a business remain the same, buying an online-only business differs significantly from purchasing a brick-and-mortar business.  Virtually every stage of the process – from developing a target profile to searching for possible targets to performing due diligence – will require a modified approach.

But first off, it’s important to consider why someone would buy an online-only business as opposed to a brick-and-mortar operation.

Why buy an online business?

There are an array of reasons why someone would choose an online business over a physical or multichannel (online and physical) business, and many of these reasons have been thrown into sharp relief by events of the past few years.

Primarily, they offer a flexibility that brick and mortar businesses just can’t offer. If you own a physical store, then growing that business could require significant investment in order to acquire and operate other stores, meaning it could be a long time before a growth plan begins to deliver a profit.

An online business, on the other hand, is everywhere by virtue of the global nature of the internet. A store based in London may have to open new locations in order to properly expand into, say, the North East, but a London-based website can easily market to and serve customers across the country and the world.

Why buy an online business

That flexibility extends to the day-to-day running of the business, with an online operation likely to have significantly lower overheads than a physical business. By extension, this also makes them easier to dispose of when it comes time to sell, with fewer assets to dispose of and, most likely, fewer rental leases than a physical operation.

While physical businesses typically require owners to put in full-time work, online businesses offer greater scope to generate passive income – such as through ad revenue – which can provide more time to acquire further businesses and diversify your operation.

Why buy an existing online business?

So, why buy an online business instead of starting one from scratch? Simply put, while online businesses can be simpler and more profitable to run than physical businesses, building a successful online operation from the ground up can be even more difficult than starting a successful physical business.

The vastness of the internet offers boundless scope for expansion, but it can also mean that businesses can find it impossible to get noticed and may struggle in vain to attract visitors or customers.

According to Forbes, 90 per cent of e-commerce start-ups fail within their first 120 days, with many owners of failed online businesses citing marketing, a lack of visibility and a lack of working capital as the primary reasons for their operation collapsing.

Why buy an existing online business

In many ways, this can be viewed as a vicious circle. The high failure rate of online businesses means many struggles to attract funding from skeptical investors, leading to a lack of capital to invest in marketing, meaning a lack of customers and what working capital there is available quickly running out.

By contrast, an existing online business is established and can demonstrate a track record of success, an existing customer base and concrete demand for its products or services. In all likelihood, its managers have spent considerable time building up its rankings in the major search engines and in establishing social media profiles.

A business person operating a focused, thought-out M&A strategy built around acquiring established online businesses is, as a result, far more likely to attract funding than someone approaching a bank, private equity firm or angel investor to bankroll their startup idea.

What are the different types of online businesses?

Broadly speaking, online businesses can be split into three groups:

1. SaaS (software-as-a-service) businesses

2. content sites

3. e-commerce businesses

Within these three categories are various types of businesses.

A SaaS company provides software via its servers that users (customers) access remotely. The company will maintain software, servers and databases that enable customers to access their service (often an application) via the internet. SaaS businesses often operate on a subscription model, for example, charging a monthly fee for the service that may fluctuate up or down depending on factors such as how much data is used, the amount of technical support required and the number of users accessing the service.

SaaS companies vary widely, but some examples include enterprise resource planning (ERP) providers, customer relationship management (CRM), web hosting servers, data management companies, and marketing and social media marketing automation.

Saas Company

Financial information that should be supplied by the vendor, in addition to regular P&L items,  ought to explicitly give the following metrics (or at least provide you with the numbers that you can work out for yourself):  Monthly Recurring Revenue (MRR), Customer Acquisition Cost (CAC), Lifetime Value (LTV), Churn Rate, Average Revenue per User (ARPU), Customer Retention Cost (CRC).

E-commerce businesses are firms that operate by selling a product or service online. E-commerce firms can be split into three main groups: business-to-business (B2B); business-to-consumer (B2C); and consumer-to-consumer.

B2B e-commerce sites involve one business selling products or services to another, for example Chinese wholesaler Alibaba or freelancer job posting platform Upwork. B2C businesses, such as Amazon, sell goods directly to consumers. Consumer-to-consumer platforms are used by users to buy and sell goods to and from other users, for example, second-hand clothes site Depop.

There are also broadly five value delivery methods among e-commerce businesses:

White Label

This model involves a company branding and selling a product under its own name and logo, but the product is generic and manufactured or purchased from a third-party distributor. It’s a strategy to boost brand visibility while minimising manufacturing costs, and it is popular within industries such as fashion and cosmetics where products are heavily reproduced.

Private Label

Private Label

A private label product is one that a retailer gets produced by a third party but sells under its own brand name. Unlike a white-label method, the retailer controls all aspects of the product, from its specifications to its packaging. To consumers, these products appear as the company’s own brand.

Wholesaling

This B2B e-commerce model involves selling products in bulk and at a discount to other businesses. The wholesaler acts as the intermediary between the manufacturer and the distributor or retailer, typically offering products at a significant discount.

Dropshipping

This rapidly growing e-commerce model involves marketing and selling items that are fulfilled by a third-party supplier. Dropshippers act as a middleman, connecting buyers to manufacturers. They use tools to integrate inventory from suppliers worldwide into their storefronts.

Subscription Service

An old model dating back to the 1600s, this method has been revitalised with e-commerce. Rather than just delivering books or periodicals, modern businesses across virtually all industries now use subscription services to bring convenience and savings to their customers.

As a potential buyer, no matter what type of e-commerce business you’re targeting, you’ll need detailed P&L reports, cash flow projections and a balance sheet that includes inventory levels and non-tangible assets like domain names. You should also be familiar with metrics specific to e-commerce businesses, such as Average Order Value (AOV), Shopping cart abandonment rate, and Add to-cart rate. You might also want to look into the email sign-up conversion rate as well as metrics common to many online businesses, including Return on Ad Spend (ROAS), CAC and LTV as above, and bounce rate.

Content sites, meanwhile, can vary from blogs, news sites and industry publications to sites hosting audio and video material. These sites will typically operate on a subscription-based business model or generate ad revenue where the information is mostly free.

It is particularly important to understand the traffic sources with content sites. Paid traffic is simple to evaluate against the value of revenue (subscriptions or ads) that match it.   Search engine traffic records from analytics need a trained eye to detect any irregularities. There are tools available that will enable you to check on the site’s Google rankings over time and to see whether large drops in traffic have been likely caused by search penalties.

One common element among all types of online businesses is the struggle to get noticed in the packed online marketplace. In order to do this, companies will typically invest in SEO in order to organically rank higher on search engines, pay to be featured as a sponsored result on search engines or buy ad space on other sites. Some firms will take all three routes in their pursuit of traffic and new customers.

Key considerations when buying online businesses

Know not only the sector you are looking in, but also the type of online business you are seeking to acquire. Even if you’re limiting your search to online businesses in the UK that are seeking a buyer in one particular sector, this is still likely to generate an unmanageably large list of potential targets.

For example, you might be looking for an apparel e-commerce business, but your search will be significantly more focused if you set out some more detailed parameters. For example, are you looking for a B2C or C2C platform? Or maybe one offering a hybrid of both? Drop-shipping or white label? That’s before you even begin to consider where you want a womenswear, menswear or children’s wear site, or one offering all three and whether you want to limit sales to certain geographic markets.

Simply put, getting these parameters established in advance can ensure a focused search that delivers a workable list of results for you and your advisors to work through, helping to facilitate a smoother acquisition process and more successful takeover.

Key considerations when buying online businesses

At BSR, we are seeing increasing demand for online businesses and, with a low amount of stock and assets to transfer and maintain, it’s easy to see why they are so attractive to buyers.

Our service splits companies into the three main categories of online businesses for sale: SaaS businesses; content websites; e-commerce businesses. This enables buyers to search for the right business more quickly, while we also seek to supply buyers with the key information they need to identify the right online business for them, looking at key factors such as:

  • The size of the business (by revenue or margins)
  • Whether there is an existing management team in place
  • Any advantageous intellectual property (IP) held by the company
  • The company’s online presence and audience
  • How long the company has been operational for

When buying an online business, the due diligence process will differ considerably from the acquisition of a physical business. Fundamentally, of course, the process should still look at the tax and legal records of the business, its reputation and goodwill, liabilities, the owner and employees and finances going back at least three years.

Furthermore, while there may be fewer physical assets than for a typical brick and mortar operation, there will still likely be registered premises and, depending upon the nature of the business, potentially assets such as stock, plant and warehouses that need to be looked at.

However, gauging the performance of an online business will also be reliant upon other metrics that are not applicable to physical businesses – such as web traffic and the cost of any maintenance that the site or the company’s systems might require post-acquisition.

Getting an insight into an online business’ web traffic will prepare you for the next stage of the process – formulating your growth strategy. This is something that should be done prior to closing the deal, to ensure that work can begin from day one.

Once you’ve gleaned the business’ financials, traffic stats and other key performance indicators (KPIs), you can begin thinking about how you’re going to grow the business: how you could increase traffic, improve the site, optimise the customer or user experience and, ultimately, drive revenue growth.

This might be through a new SEO-led content strategy, a switch from a paywalled subscription service to an ad revenue based model, a site redesign or simply an investment in ad space or sponsored ranking. Whatever growth strategies you devise, having them in place before you take the helm will help to ensure that the integration and overall growth plan is more efficient, quicker and more successful.

Valuing an online business

Generally having fewer assets than a physical business, it can be tricky for buyers acquiring an online business for the first time to work out how to accurately value the company and some buyers might be uncertain of how sellers have reached their valuation.

As with the due diligence process, the valuation process does share some similarities with the traditional approach. There are the typical valuation methods of earnings multiples and discounted cash flow analysis and you will, of course, look at income streams, whether revenue is reliable/recurring, the company’s goodwill and intellectual property and liabilities.

However, there are also other factors to consider. Most notably, traffic. Online businesses rely on web traffic, but even that doesn’t necessarily provide an accurate measure of the business value. The key element in this regard is determining the quality of the business’ traffic. It might get 1,000 visits a day, but how many of those result in a sale?

When using traffic as a method of valuation, revenue per user (RPU) is perhaps the most useful approach, showing how much each visitor to the business’ site is worth as a portion of its revenue. If the RPU is low, then the company needs to be more successful at converting visitors to customers and this should be reflected in its valuation.

Traffic analysis can also be useful for gauging the business’ resilience, which is vital to making a valuation. If an online business is overly reliant on traffic generated from one source (e.g. advertising) then it is more vulnerable to a loss of traffic if returns from this stream begin to wane. Ideally a business should have strong traffic coming in from a diverse array of sources, backed up by a strong SEO strategy. A firm that has this kind of traffic stream will be worth more than one that leans on fewer sources.

Valuing an online business

Finally, perhaps the most important metric for valuing online businesses operating on a subscription model (e.g. many SaaS firms) is Monthly Recurring Revenue (MRR). MRR is highly prized when valuing SaaS businesses as it is seen as a far more reliable indicator of the health of the business than Annual Recurring Revenue (ARR)

For subscription-based companies, MRR enables them to accurately predict future revenue, identify trends that could drive future growth and spot problems that can inform strategic decisions.

When valuing an online business, MRR can also inform other important metrics regarding the health and overall strength of the business. It can be used when calculating customer acquisition cost (CAC – the cost of acquiring new customers, which is calculated by dividing the cost of sales and marketing by new customer numbers), lifetime value (LTV – the projected revenue that a customer will generate during their lifetime) and gross margin (a company’s profit after subtracting the cost of goods sold from turnover).

In many ways, buying online businesses is perfect for a range of buyers: whether those are smaller, first-time buyers or scaled-up consolidators looking to rapidly expand through acquisitions.

Online businesses tend to have fewer assets, making them easier to transfer and for smaller teams to operate. What’s more, for would-be online entrepreneurs, acquiring existing online businesses comes with a far higher rate of success than starting an online enterprise.

However, that is by no means to say the process is easy. For one, there are an enormous range of highly diverse online businesses out there. To undertake a manageable and ultimately successful acquisition search, buyers will need to be aware of exactly what they want.

Buyers will also need to be aware of key distinctions that the due diligence and valuation processes for online businesses have in comparison to traditional business sales, and ignoring key elements such as web traffic and SEO could prove fatal.

However, if buyers approach the process properly, then acquiring an online business – or multiple online businesses – can be the perfect route to highly successful and lucrative business ownership with almost boundless scope for growth.

Total
0
Shares
Previous Post
Mastering the Trade - Unlock Your Potential with Electrician Courses

Mastering the Trade – Unlock Your Potential with Electrician Courses

Next Post
The Inside Track on Buying a Business

The Inside Track on Buying a Business

Related Posts