Every morning I wake up, get out of bed and think to myself “working in this industry is like running a gangland empire”.

The fame, the money, the jewels …. actually, it’s nothing like being a kingpin, but every now and again there is a feud – or at least a very heated debate and an angrily worded letter. Thankfully, no one gets shot in the ‘internet acquisition game’ … yet.

I recently read a post by Mark Daoust from Quiet Light Brokerage entitled “The Danger of Multiple Averages”. I know Mark relatively well and he is in my opinion, one of the best brokers operating today and a great guy to talk with. … In fact, before getting to the post and what followed, I’ll give you some background to explain where this all started.

Two months ago I wrote and published the 2014 Website Buyer’s Report. It lists data, average multiples, asking prices and sample sales from 100s of websites and internet businesses sold across seven categories. The goal was to create a resource that buyers or sellers could use to get a better understanding of prices in this industry and where those prices are heading (spoiler alert .. they’re trending upwards).

This report has had lots of downloads in a short time span, and seems to be well received. I received an email from Mark who didn’t entirely agree with the conclusions that the numbers pointed towards. In his opinion and experience, the numbers were generally too low.

He published his reasons in the above mentioned post, and initially I was inclined to agree. Somehow though, the more I read the more I began to see holes in some of his logic.

The danger with multiple averages

If you haven’t read the post yet I’ll summarize Mark’s argument:

• The sample size wasn’t comprehensive enough for proper segmentation
• A heavy focus on multiple averages would cause really strong businesses not to enter the market
• Businesses with more value will always command a higher multiple (no argument there)
• The report should have included multiple ranges not category based multiples – for example, rather than telling you the average lead generation site sold for 2.69x net, it should have been listed as 0.98x – 5.83x net
• The consequence of the report is that ‘Good Businesses Aren’t Entering the Market’ ( … a little harsh pinning that one on my report … can’t we just agree to blame the economy like everyone else?)

This summary doesn’t do the post justice so please read it in full at some point –it’s well worth the read.

I didn’t disagree with everything Mark said. In fact, I agreed with more than half of it, but in many cases I had reasons for doing what I did.

For example, I totally agree that the sample size was relatively small (approx 700 listings), but this was just what was available when you took away the ones that didn’t fit the initial criteria, didn’t have complete information or were an obvious scam / misrepresented listing. The last part alone introduces some qualitative bias to the sample, but I still think the amount of listings analysed were sufficient enough to draw good conclusions on.

I also agree that a distressed business will sell for significantly less than one that shows strong performance so in this case an average can be misleading. However, by that same token the distressed business is only distressed because it shows poorer performance relative to the majority of other businesses available (i.e. the average), and the same goes for the strong performers. These are not typical businesses in any case, and not what I’m trying to represent with an average multiple – on the contrary, the average multiple is for the ‘average’ business, and I’m sure readers are smart enough to realise that without being told.

That common mistake which smart people frequently make

Mark compares two listings that are identical in every respect except earnings and states that one would fetch a higher multiple than the other.

No disagreement here.

A business with $10K annual earnings would never command as much as one with $750K but that is as much about the price bracket it will end up in rather than the qualities of the business.

The Website Buyer’s Report exclusively looked at sites that sold for above $20K, but the median and average for both was around $180K across the range. Small sites operate in their own eco-system with very different valuations to larger, more established businesses, but fortunately only a few of the sites in our sample was actually this small.

More importantly though, Mark made an intelligent argument but forgot to check if the real world supported that view.

In theory, I would expect the two businesses in the example above to sell for very different multiples mostly for the reasons he gave even if the lower end business had revenues of say $50K rather than $10K.

In practice, that’s actually not the cause based on what happened in 2013. The overall size of a business had relatively little effect on its selling multiple when we looked at the overall sample. I’ll agree that this doesn’t tell us whether those businesses were ‘bad’ or ‘good’ ones, but with a large enough sample it should even out.

My theory is that it comes down to economics

It’s a fact that demand massively outstrips supply in this industry.

This is causing prices to rise higher where the gap between demand and supply increases. How many people do you think are able to afford a $3 million purchase versus those able to afford a $300K one? Businesses that fall in the awkward price bracket between broker and private equity will often sit unsold for months, while the buyer waits for a strategic purchaser to come along.

Those priced at $100K – $300K will sell quickly if it’s a good business, even if the multiple is relatively high. There are far more competing buyers at this price range and many are baby-booming first-time buyers with a long term view for their investment. Multiples are important to them, but finding a stable investment is more important.

Mark also failed to account for the fact that not every buyer is savvy enough to spot what that good purchase is. Brokers make the mistake of assuming that a higher spend (and greater net-worth) equates to more financial savvy, but in reality it’s not the case. I blame the lottery, property booms and second-generation wealth, but I personally know investors with seven figure amounts to spend who can’t read a balance sheet.

Scatter What?

Mark also thought it would have been better to use Multiple Ranges and Scatter plots, but I’ve got to disagree with this too.

First, a multiple range just wouldn’t be useful and actionable to the average person reading.

For example, I can either tell a first-time buyer that the average content site was listed for a multiple of 2.69x last year, or I can tell them the average range content sites were listed at was 0.98x – 5.83x.

The latter is technically accurate, but put yourself in the shoes of a first time buyer and tell me which you think is more useful? Personally, I’d rather have a figure than may be 20% too high or too low but still in the same ballpark than have to decide whether I should be paying $94K or $583K for that site I’m about to buy.

He also claims “Even more helpful would have been the inclusion of scatter plots for each category”

To quote Mark,

Data sets do not always congregate nicely around the average, and sometimes an average is actually the result of two or more groupings within a dataset. … In addition to offering a simple range of multiples and scatter plots, why not include a few advanced metrics for buyers? Analysis such as standard deviation, variance, kurtosis, or a coefficient of determination would all be helpful statistics.

Here’s the example he created for us

I’m not here to underestimate or assume anything about the statistical knowledge of my average reader. I simply write at a level which I would be comfortable reading myself. My guess is the inclusion of those lovely scatter graphs, other than being visually nice to look at, wouldn’t have helped in conveying where the market was currently at. In fact, providing more data would have probably caused more confusion or misinterpretation in answering the question “is this a fair price to ask / pay”.

Where these graphs are useful is showing extreme examples like above, when a massive divide exists between two groups of data. However, using real figures, and not the fictional examples above, the graphs just didn’t paint that clear a picture.

Missing the Point

The primary goal in creating the Website Buyer’s Report was to give people who buy and sell websites and internet businesses an understanding of what’s typical given an average scenario. People can then use their own judgement to work out how far above or below ‘typical’ their particular case is, and how far to deviate from the average in light of that.

If people switch off because the information is too technical or theoretical then it’s failed its purpose of delivering a message to the reader, no matter how technically correct it happens to be. If the most technically accurate information was the best approach, Infographic designers would have gone out of business a long time ago and the most viral business posts would be spreadsheets and tables but that’s not the case.

I loved every part of designing the WBR but it took a lot of time to create and write what’s there. Given the choice and all the time in the world, the best option would have been to dig into each business, report on their ‘health’ and create new segments other than Business Model / Category that showed people how lower value sites compared to higher value ones or how older sites were valued against newer ones, but that wasn’t practical. In my opinion, it was better to publish something even with a basic metric such as average multiple, rather than do nothing and wait for someone else to provide that information to buyers.

Gunfight anyone?

There is one way to test a data study – apply it to a real world scenario and see if you can predict what happens. Let’s see what happens when we take 6 live listings at random from QuietLight and compare their asking price to the multiple we established in the Website Buyer’s Report.

QLB’s Asking Multiple: 2.80x
Website Buyer’s Report Suggested Multiple: 3.11x

Asking Price according to WBR: $630,888
Difference: ~ 11%

Ok, so we’re a little out on that one but 11% isn’t a bad estimate – let’s try again

QLB’s Asking Multiple: 2.92x
Website Buyer’s Report Suggested Multiple: 3.01x

Asking Price according to WBR: $643,483
Difference: ~ 3%

Getting Better …

QLB’s Asking Multiple: 2.98x
Website Buyer’s Report Suggested Multiple: 3.01x

Asking Price according to WBR: $1,111,175
Difference: ~ 1%

Correct within 1%! – There’s the money shot …

QLB’s Asking Multiple: 3.05x
Website Buyer’s Report Suggested Multiple: 3.01x

Asking Price according to WBR: $1,235,361
Difference: ~ 1%

QLB’s Asking Multiple: 2.80x

Website Buyer’s Report Suggested Multiple: 3.01x

Asking Price according to WBR: $221,506
Difference: ~ 8%

There’s an slight variance in each case, but not by a huge amount. In fact, QLB listings typically seem to be priced lower than the average suggested by the Website Buyer’s Report – the same report that’s apparently causing “really strong businesses to not enter the market” … go figure!

This is never going to be 100% accurate, and truthfully, I think I got lucky with the examples above. However bearing the purpose in mind, as a device to get a rapid indication as to what asking prices for an internet business will be, then this is certainly the best free start available until someone does better (…. [Bait]).

Correlation is sometimes causation …

If you take anything away from this article, let it be that you should always apply your own interpretation when statistics and large sums of money are involved. This generally means buying businesses and choosing politicians. I’ve tried to be as objective as possible in the WBR, presenting simple conclusions based on the data and time that was available. I hope I’ve managed to justify the fact that without ‘advanced metrics’ it’s still a useful tool.

I’m still undecided about most of Mark’s post as I don’t disagree with all of it, especially the part about Ecommerce companies being tightly grouped around the mean versus Lead Gen which isn’t for example. I’ve decided to cancel the hit I put out on Mark for now, as he’s too good a broker and the industry needs him. All jokes aside, if more brokerages were run by smart entrepreneurs who thought independently, rather than trained employees, then that extra hustle would in my opinion go a long way to raising the profile of what we do.

I’m keen to hear your thoughts on the subject if you have any and if you like this post, please don’t forget to Google +1 using the button below. You can also download a free copy of the 2014 Website Buyer’s Report by clicking this link.

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This morning I had a comment on a blog post from three years ago, written around when I had just started blogging.

I wrote an article a while back on Flipfilter’s blog called “Our Industry needs a Hero”. It was 2010 and the height of the website flipping boom. People were getting rich and everybody wanted a piece of the action. Template sites with no revenue, no traffic and cloned content sold for up to $800, as fast as their creators could build them. For those of you that missed it, it was sort of like the 80s, just with less disco and no crack cocaine – although it’s debatable what some buyers consumed before hitting the buy-it-now button.

Like with any boom, there’s always going to be a bust (it came around a year later), but some companies and individuals rode that rollercoaster and made good money directly and indirectly.

At the time, Flippa was a rising star in the Sitepoint portfolio and then the largest marketplace for buying and selling websites and internet businesses. It wasn’t a case of right place right time; they hired smart people and hacked the life out of the opportunity, building a successful web business that had no choice but to be a market leader. The idea behind the article was looking at what it would take for a company to come along and be a serious contender. After all, a monopoly in any situation can’t be a good thing right?

Maybe I should have wrote this post Memento style, starting now and going back in time because you all know how this ends – Flippa is still the uncontested leader in this space. The last few years haven’t been entirely uneventful though.

As a guess, I’d say nearly 30 companies have tried and failed, and that’s just the ones who made a big enough impact to be noticed. Some of these companies were from fairly smart entrepreneurs, so not all of the failures can be attributed to managerial incompetence.

IMO, the most common problems amongt the failures, in no particular order, seemed to be:

Failing to reach critical mass

Perhaps this is a symptom of some of the other problems further down the list, but it certainly seems to be the most common.

Almost all the sites that failed had an issue attracting enough quality listings to attract enough quality buyers. If you’ve been on the backend of this industry long enough, as a broker or marketplace-person of some kind, then you’ll know all the demand is on the buy-side. There is currently a shortfall in quality, reasonably priced listings in the $50 – $500K range, and every marketplace that started seemed oblivious to this issue either by targeting small sub $20K sellers, or by paying little attention to attracting sellers and spending money to recruit buyers instead.

When listings seemed to dry up, many of the marketplaces went after the low-hanging fruit; you know the type – little revenue, six months old and a ridiculous valuation. From a seller’s perspective I wouldn’t want my *serious* business to be rubbing shoulders with template sites and other digital undesirables, and this then probably set the bar for the type of listing they would go on to attract. Inevitably, all of these marketplaces soon imploded.

Failing to find a (working) business model

“It’s like Flippa, just that it’s free”

“It’s like Flippa, just that it’s cheaper”

“It’s like Flippa but all the transactions are done in bitcoin”

It’s easy saying this in hindsight, but surely you knew that wouldn’t work right? (FYI, I made the last one up). Flippa didn’t gain success because people wanted a cheap option. Digital Point had that market cornered, so it’s amazing how many people think this makes a game-changer.

Forget the game, change the record.

Failing to differentiate

I think it’s fair to say that if you paid less than $200 for your ‘Marketplace’ it probably isn’t a marketplace. The only people who ever got rich from a Flippa Clone template were Agriya, and strangely 80% of the failures looked strikingly alike even when all of the owners claimed to have spent $0,000s on custom development.

Design isn’t everything, but trust is important when people are conducting high value transactions. Trust partly comes from design and a good original UX.

Failing to spend (any) money

I can’t speculate on how much Flippa spend on advertising, but I know they did a lot of re targeting in 2012 with Flash adverts that showed you the last auction you viewed and its current price.

If you’re a super smart growth hacker, or you have a lot of connections that will supply the highest quality listings on tap, then there’s no need to spend any money to recruit customers but that’s rarely the case. Trying to crack the problem without a sizable budget for customer acquisition is like taking a pea-shooter into a gun fight, and then realizing you’ve actually turned up at a bomb fight but no one told you. Still, people tried – with no budget, and ultimately failed.

So how is all of your bitching constructive to this industry?

This isn’t a general rant (well only a little), although I appreciate why you would think that. I’m not condemning the effort made by those who tried and failed, as they were the few who took action rather than moaning about how awful things were and how they could do a better job.

Three years on, we still have a problem without an abundance of good solutions. There’s a big market of people willing to invest in sustainable internet businesses, and a much smaller, but still viable market of people who have a business that for one reason or another they would like to sell. Finding an effective way of connecting these two parties seems to be the golden unicorn, and building a Flippa-like marketplace isn’t the only way to do it.

Some people have made a pretty good dent without competing head-on and it’s likely that more will continue to do so.

Justin and Joe at Empire Flippers have tried building a marketplace with an entirely different model, putting the emphasis on delivering value to the seller. They have a sizable audience so will probably crack the critical mass issue without too many problems.

Also there’s the half-broker, half marketplace approach. A few years ago I spoke about how internet-only brokers would rise in popularity, and that seems set to continue. They’re slowly filling the gap left by Flippa for those elusive $50k – $500K deals. They don’t have the traditional nuances of a marketplace but arguably don’t need them.

The future?

In hindsight, perhaps Flippa didn’t need competition after all or rather not direct competition.

The problems that they solve as a marketplace (marketing, security, payment facilitation) have all been solved by indirect competitors, proving a solution can exist without being a me-too. As the number of clones subside, I’m curious to see if any company will successfully take a significant chunk out of the market in 2014.

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