Website Valuation Methods
George is a website investor and writes about website investing, due diligence, and earnings optimization at WiredInvestors.com. In a past life, he was a trader at an investment bank, but nowadays he spends most of his time in coffee shops browsing reddit whilst he should be working.
The following is a guest post from George, who writes about the process of website investing at Wired Investors.
Website Valuation: How to determine Website Value
Are you thinking about buying a website for investment purposes, or maybe selling a profitable website that you built from scratch? Perhaps you’re not sure how to go about determining your website’s value?
Don’t worry – you’re not the only one. Regardless of whether you’re a buyer or seller, trying to work out how to do website valuation is a tricky business. Even the most traditional of assets – say, houses for example – are hard to properly value. It figures that if people can’t figure out how to evaluate a type of asset that has been around for a few thousand years, it’s not surprising that we have trouble with something that’s been around for only 20.
However, in the world of investments, there are a few things that can help us out when we’re trying to determine what something is worth (and this includes websites). After all, people invest money for the purpose of earning returns, so we can use these ROIs as a benchmark to compare different investments as well as asset classes. I won’t go into depth about how the returns on websites compare to other asset classes – but basically, I think website values as a whole are lower than they should be (read this Business.com article for more on this).
What I will say is that the first and most straightforward way to value any kind of website is to find out how the market as a whole determines a website’s valuation. The standard ‘rule of thumb’ for website valuation prices sites at about 15x to 35x monthly earnings, and the multiple tends to increase as the size and profitability of the site increases.
At the low end of the market, sites listed on Flippa tend to sell at 12x to 18x, mid-tier sites like the ones sold on Empire Flippers get listed at around 20x, and high-end sites can go for 30x or higher.
Now that we know the ballpark figures, we’re going to delve into the details. We’ll explore the methods that can be used for sussing out what a website is worth, and discuss what details are important when evaluating website value.
Website Valuation Methods
The first thing to know when attempting to value an asset is that if your assumptions are wrong, your methods are irrelevant. It doesn’t matter how good a recipe is if you bought the wrong ingredients. One common phrase used in the programming world is GIGO – Garbage In, Garbage Out. Make sure you do your due diligence and verify the numbers that you’re using before even thinking about trying to value a web asset.
This is probably the most commonly used method for website valuation – and it’s relatively straightforward. After you’ve done your due diligence and you’ve determined that a website’s returns are real, you simply multiply it by a number – and this number goes up as earnings go up. Below, we’ve included a table with very rough approximations of ‘fair’ multiples depending on earnings
|Monthly Earnings||Fair Value Multiple|
Obviously, the multiple that is applied will also be determined by the business model of the website. Ecommerce sites and SAAS sites are seen as more sustainable and will usually fetch higher multiples than sites monetized via ads or affiliate offers.
Now, if you’re a buyer, and you want to do better than average, your goal is to buy web assets at below the approximate fair values listed above.
The opposite is true if you’re a seller – you’ll want to emphasize the strengths (outside of earnings) of the asset that you’re selling to fetch a multiple that’s better than the theoretical fair value.
Getting to a website value using this method of applying multiples to monthly earnings is pretty easy. The tricky thing about using this method is that you need to adjust the multiple based on a variety of other factors – traffic quality, sustainability, monetization methods, etc. The main takeaway here is that less experienced buyers/sellers should treat valuations they obtain with the multiples method as approximations – valuation isn’t an exact science.
If you’re looking to either buy or sell a site, particularly if you’re working with the higher end brokers, you might run into a valuation method called the Discounted Cash Flow method – or DCF for short.
Spoiler Alert: I think the DCF model is pretty redundant method for determining website value for a number of reasons.
To understand the DCF method, you’ll first have to understand a concept called the Time Value of Money. The basic idea is that a dollar that you receive a year from now is worth less than a dollar today due to inflation and the loss of opportunity to spend/invest that dollar. Because money in the future is worth less than money today, it follows that future profits or cashflows generated by a business will be worth less than profits that are received today – and as such, we need to discount future cashflows.
In order to discount future cashflows, we need to choose a discount rate. There are a number of ways to choose an appropriate discount rate (see here). You then map out the cashflows of the website, discount them back to their value today (known as the Net Present Value, or NPV), add up the NPVs coming from the different cashflows, and arrive at a valuation.
I come from a Finance background, and I think the DCF method is tremendously useful for valuing a wide range of assets – but for websites, I don’t think that it’s particularly useful. Remember we mentioned Garbage In, Garbage Out earlier? This is what we were talking about.
If you were trying to value a large company like Walmart, then a DCF model would probably be valuable – you know how many new stores they’re opening, you know how profitable new stores tend to be, and you know that Walmart is relatively recession-proof. Thanks to these factors, you have a reasonable shot at forecasting the future profitability of a company like Walmart – and so a DCF model makes sense, because the inputs you’re using (future cashflows/earnings) are likely to be reasonably accurate.
Websites on the other hand, are pretty volatile assets. Even the most stable websites can see huge drops in earnings due to a Google update, or huge increases in earnings because a product or post goes viral. It’s a fool’s errand to try and predict a website’s profitability two or three years into the future (let alone the 5 or 10 years that most DCF models use).
The DCF model is very precise – it feels good because you’re doing a lot of math and it gives you a nice, exact figure. But when buying or selling an asset, you should never mistake precision for accuracy.
Precision without accuracy is pointless – an archery target with more circles on it makes for a more precise target, but it’s ultimately useless if you miss the target altogether. The DCF model relies on reasonably accurate forecasts of future cashflows, and accurately predicting the future of a website years in advance is next to impossible.
This method is relatively straightforward, and is best used for sites that are relatively new or aren’t generating a lot of earnings. Essentially, you figure out how much it cost to put the site together, and that’s how much it’s worth to you.
Now, sellers will often claim that they have invested $X into a site – these claims are almost always grossly exaggerated. IF you want to use the replacement cost method, you need to work backwards and come up with your own figure for how much you think the site would have cost to put together.
Imagine a new business that owns a machine that prints t-shirts – the business has no customers and is making no money. How might you value that business? Well, if the business just owns that machine and nothing else, then the fair value of this business might just be the cost of the machine.
The same idea applies to using replacement cost to value a website – what assets does the website have, and how much would it cost to reproduce those assets?
Let’s pretend we’re valuing a website that has 5 pages of content, and each page has 1000 words. The website exists on a domain that is worth $100 due to its power or brandability. The website also has a custom logo, and comes with an ebook of 10,000 words
Assuming that you’ve verified that all the content is original and high quality and that the power of the Domain is genuine and not based on spammy backlinks, then you could value this site the following way:
If typical price for decent content is $0.03, then:
1000 x 5 =5K words + 10k words in the ebook = 15K words
15K words x $0.03 = $450
Domain is worth $100 and the custom logo would cost $20 so:
$450 + $100 + $20 = $570
That would be a basic example of how you work out replacement cost.
Now, an important thing to note is that as a buyer, you almost never want to pay full replacement cost – otherwise you might as well put the site together yourself and have greater control over the content/strategy of the site. As a buyer, you’ll only want to buy a site at a significant discount to replacement cost – you might take a 30% discount and value the site at $399.
Again, the opposite is true of a seller – you’ll want to try and get a price that is above your true replacement cost, otherwise you’ve just wasted your time.
This is a similar approach to using an earnings multiple, except that it’s a little more specific. A comp is basically a comparable asset to the one that you’re trying to value – for example, if you’re trying to value Walmart, you might use Target as a comp.
You can find comps based on business model of a site or the niche of the site (or both). For example, if you’re trying to value an ecommerce site, you could look for similarly sized ecommerce sites that have sold in the past. If you’re looking at a site in the technology niche, you might want to look for other tech sites that get similar amounts of traffic/earnings.
The problem with using comps is that there isn’t that much publicly available information about the details of website transactions – on the low end, your best bet is to look through old Flippa auctions. If you’re working with a higher end broker, you can ask them if they can give you information on comparable sites that they’ve sold in the past.
Once you’ve gathered a few comparable websites that have been sold recently, you can work out what multiples they sold for, take the average, and then apply it to the site that you’re trying to value.
If a website has a decent amount of traffic but have much in the way of earnings, you can consider trying to value the traffic itself.
In the broader investment world, this type of valuation is typically used with tech companies that haven’t reached profitability – you might have read about tech companies getting huge valuations based on eyeballs – these ‘eyeballs’ basically mean traffic.
A basic way to determine traffic value is to find the relevant CPCs for the niche/vertical that the site is in, then estimate a reasonable CTR % and workout the how much the site would make if it were monetized correctly.
A quick example: A site has 20K visitors a month – the niche is very generic, so the CPCs are low – say, $0.25 per click, and CTR is 3%
20K x 3% x $0.25 = $150
So this example site could potentially earn $150 a month – but we definitely need to discount this heavily, because it this monetization hasn’t yet been realized. If we assume that we have a 50% chance of successfully monetizing the site to this degree (and 50% of failing completely) then:
50% x $150 = $75
We can then apply a standard multiple – let’s say 15x – so:
$75 x 15 = $1125
Some experienced buyers like using this valuation method because they often have a rough idea of what kind of visitor values they can expect for any given website, so they feel comfortable valuing for a website on its traffic numbers alone. Less experienced website buyers should probably stay away from traffic valuation until they get a good handle on a range of monetization methods.
Hopefully, you found the various methods outlined in this article enlightening. At the end of the day, valuation is a subjective thing, and while it’s useful to have a range of website valuation methods at your disposal, it’s the assumptions that you make about earnings and traffic that matter – the methodology itself is less important. Remember – when it comes to website value and valuation is general, the rule to remember is Garbage In, Garbage Out – if you give a formula bad inputs, your output will be useless at best and misleading at worst.
Learn More about Investing in Websites
If you liked this post, I frequently write about buying websites from an investment perspective at WiredInvestors.