This article will explain the benefits of SEO and their potential impact on valuation. To explain this point, we'll use the example of an E-commerce website. If the business owner wants to sell, they hope to get the best price possible. We'll look at how strong SEO has an impact on the price a business sells for.

SEO & Its Impact On Valuation

To begin with, there are four main methods of private company valuation. These valuation methods are important because they are how a prospective buyer would try and determine how much to pay for a business. There are four primary methods of valuing a private company: analyzing comparable companies; looking at precedent transactions; discounting cash flows; and directly valuing the business's assets.

Here, we'll focus on the DCF valuation as it is normally what prospective buyers would rely the most on. A DCF valuation looks at a business as valuable because of the expected future cash flows it's expected to bring in. Essentially, what we're doing is looking at the earnings a business has, projecting them out for several years into the future, and then discounting them back in time to their net present value. This is our attempt to understand what it would be worth paying today, for cash flows received in the future. You can learn more about DCF Valuation here >>

https://kimberlyadvisors.com/articles/discounted-cash-flow-dcf-valuation

Now that we've seen how discounted cash flow valuations work, we'll look at how SEO can impact them.

First, those cash flows are only valuable because we expect to receive them. A huge reason why buyers are willing to pay premium prices for businesses is because they deem its cash flow to be reliable.

A big reason why cash flow would not be reliable is because it is channel-dependent. Most E-commerce websites run pay-per-click ads. These ads, while they can be very profitable, are deemed to be channel-dependent. Why? Because, if the advertising platform blocks ads, or bans accounts then the revenue streams are stopped. This is perceived as risky because large advertising platforms block ad accounts all the time.

SEO is a great alternative because generally, it's considered to be much more reliable than PPC ads. Prospective buyers are willing to pay premium prices for businesses that can demonstrate strong domain ratings. Additionally, SEO doesn't cost as much (if anything) as PPC ads do. So, often e-commerce websites with strong SEO are more profitable. This also drives the price up because businesses are normally valued at a multiple of earnings.

What If Buyers Determine SEO Is Poor?

If buyers determine that an E-commerce website has poor SEO, then the price can be impacted. This may happen in a number of different ways. First, the purchase price can be reduced. The purchase price is the total amount the buyer will agree to pay the seller. Second, the terms of the deal can be altered. The prospective buyer could come back and decide to only purchase 80 percent of the business as opposed to the whole thing. They could also try and tie part of the owner's total compensation to an earnout agreement. This is probably the more likely choice.

An earnout agreement, part of the purchase price is tied to future performance targets the business must reach. If they are not met, then the earnout amount is not paid to the seller.

Sellers generally consider earnouts to be a bad thing. The reason is that the amount is not guaranteed to them. Moving forward, they won't be in charge of the business (the new buyer will be). So, they may feel that future performance targets are the buyer's responsibility. However, if the buyer has made a generous offer, the seller may be enthusiastic about the purchase price and consider the earnout to be the "cherry on top." You can learn more about earnouts here >>

https://kimberlyadvisors.com/articles/earnouts-in-m-and-a

Conclusion

When valuing e-commerce businesses, prospective buyers tend to pay higher premiums when they feel that the cash flow streams they are valuing are more reliable. SEO is probably considered the most reliable form of new website traffic. Having a strong SEO presence implies the cash flows are stronger. If the website does not have a strong SEO presence, the buyer may try and negotiate a lower purchase price for the business, or they may try and tie part of the owner's total compensation to an earnout agreement. Under an earnout agreement, less money is guaranteed to the seller. It's in the seller's best interest to have strong SEO.

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