Valuing a business based on turnover presents an efficient and straightforward approach to understanding its financial health. By focusing on this key metric, you can make critical decisions regarding the future of your company, whether it involves expansion, pivoting, or selling.
In this blog, Walker Hill delves into the nuances of business valuation using turnover alone, providing you with valuable insights to help determine your organisation’s worth confidently and effectively.
What is Turnover?
Turnover is a crucial metric that reflects the efficiency and effectiveness of a business in managing its resources, including inventory, cash, and employees. By tracking turnover, companies can monitor their purchasing, sales, and inventory cycles, which is vital for planning and controlling production levels.
There are three main types of turnover:
- Inventory turnover measures how often a company sells and replaces its inventory within a specific period, typically a year. A higher ratio indicates better inventory management and faster sales.
- Cash turnover assesses how frequently a business spends its cash during the reporting period. This metric helps companies evaluate their cash management strategies and identify areas for improvement.
- Labour turnover calculates the proportion of employees who have left the company compared to those still employed within a given timeframe. Analysing labour turnover helps businesses understand employee retention and attrition rates, which can impact overall productivity and success.
Can Turnover be used to value a company?
Yes, turnover can indeed be used to value a business through a sales-based or turnover-based valuation method. This approach is among the simplest ways to determine a business’s worth by focusing on average weekly sales.
Turnover-based valuation provides businesses with a streamlined and accessible method for estimating their current market value, making it an appealing option for those seeking a quick yet informative assessment.
How to use Turnover to value a company?
To perform this valuation, here’s how to do it in two simple steps:
1. Find your average weekly sales
Divide your total sales (without taxes) by the number of weeks in a year. If you have last year’s financial data, feel free to add it, but make sure to change the number of weeks accordingly. This will provide you with the average weekly sales number.
2. Multiply by your sector value
Different industries have varying sector multipliers, which represent the number of weeks used to determine the company’s fair value. Multiply your average weekly sales by the relevant sector multiplier, taking into account similar businesses, to obtain your company valuation.
Here’s the formula: Business Valuation = (Turnover/Number of weeks) x Sector Multiple
Example:
Let’s say you own a massage business, and your total turnover for the year was $45,000. You divide it by 52 weeks to get an average weekly sale of $865. Now, if the multiplier is 15 weeks for massage businesses, then it means your business valuation would be:
$865 x 15 weeks = $12,975
Therefore, the value of your massage business based on turnover would come out to be $12,975.
What are the benefits of using Turnover in a business valuation?
Turnover-based business valuation offers a simplified and accessible method for estimating a company’s worth. Here are three compelling benefits of using turnover in a business valuation:
Ease of Calculation
Turnover-based valuation requires minimal data, making it quick and easy to calculate. This simplicity is ideal for businesses seeking a preliminary estimate of their value without getting bogged down in complex financial analyses.
Industry-specific Insights
By applying sector-specific multipliers, turnover-based valuation takes into account the unique characteristics of different industries. This results in a more tailored and relevant assessment of a company’s value within its specific market.
Informed Decision-making
Utilising turnover as a key metric in business valuation determines valuable insights into a company’s financial health. This information can guide strategic planning, resource allocation, and investment decisions, ultimately contributing to the organisation’s long-term success.
What are the drawbacks of using Turnover in a business valuation?
While turnover-based business valuation offers a simplified method for estimating a company’s worth, it also has its limitations. Here are three drawbacks of using turnover in a business valuation:
Lack of Comprehensiveness
Turnover-based valuation only considers a single aspect of a company’s financial performance, potentially overlooking other important factors such as profit margins, business assets, and liabilities. This may result in an incomplete or inaccurate representation of the company’s true value.
Inapplicability to Certain Businesses
Some businesses, particularly startups and those with irregular cash flow, may not benefit from a turnover-based valuation due to their unique financial circumstances. In these cases, alternative business valuation methods may be more appropriate for accurately assessing the company’s worth.
Vulnerability to Market Fluctuations
Turnover-based valuation relies on sector-specific multipliers, which can be influenced by market conditions and trends. As a result, this business valuation method may not accurately reflect a business value during periods of economic uncertainty or industry-wide changes.
Why is it important to calculate business Turnover?
Calculating business turnover is essential for several reasons that contribute to the overall success and sustainability of an organisation. Here are some key points highlighting the importance of turnover calculation:
Financial Health Assessment
Turnover serves as a reliable indicator of a company’s financial health, offering insights into revenue generation and sales performance. Regularly monitoring turnover helps businesses identify potential issues early on and aids in making informed decisions to improve profitability.
Resource Management Efficiency
Analysing turnover allows organisations to evaluate their effectiveness in managing resources such as inventory, cash, and employees. Efficient resource management directly impacts a company’s bottom line and ensures the optimal utilisation of assets (tangible assets and intangible assets).
Performance Benchmarking
Calculating turnover enables businesses to compare their performance against industry standards or competitors, providing valuable insights for strategic planning and goal-setting. This benchmarking process encourages continuous improvement and drives companies to adapt and innovate.
Investor Attraction
A healthy turnover can attract investors by showcasing the company’s revenue-generating capabilities and growth potential. Investors typically seek businesses with robust financial performance, and turnover serves as a critical metric in their evaluation process.
What can be done to increase Turnover?
Increasing turnover is crucial for businesses looking to grow and succeed. Here are some practical strategies to boost turnover:
Expand Product or Service Offerings
Diversifying your product or service range can help attract new customers and increase sales. Focus on offerings that complement your existing portfolio, fulfil customer needs, and align with market trends.
Boost Customer Loyalty
Keeping current customers is usually cheaper than gaining new ones. Increase their happiness by delivering outstanding service, quickly handling any issues, and introducing rewards or special offers for loyal customers.
Optimise Pricing Strategy
Regularly review and adjust your pricing to ensure it remains competitive and profitable. Consider implementing promotional pricing, discounts, or bundling options to encourage higher sales volume.
Invest in Marketing Efforts
Implement targeted marketing campaigns to raise brand awareness and attract potential customers. Utilise a mix of online and offline channels, such as social media, email marketing, and local advertising, to reach your target audience effectively.
Strengthen Sales Team Performance
Provide ongoing training and support to your sales team to enhance their skills and motivation. Set clear targets, offer incentives for high performance, and create an environment that encourages collaboration and continuous improvement.
By employing these strategies, businesses can effectively increase turnover, leading to greater profitability and long-term success.
Get professional advice from business valuation experts
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