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What is my creative agency worth<\/a>?\u00a0\u00a0<\/p>\n You might turn to Google and search these exact words if you are thinking about selling your agency, applying for financing, preparing for a merger, or restructuring. Likely, you come across \u201crules of thumb\u201d that seem to simplify calculating the value of your agency. Determining an agency\u2019s value<\/a> using these \u201crules of thumb<\/a>\u201d is tempting because they\u2019re quick, easy to understand, and inexpensive. However, business valuation, regardless of industry, is more nuanced than a few simple rules or guidelines.\u00a0\u00a0\u00a0<\/p>\n Relying on an industry rule of thumb can lead to a significant over- or understated value, increasing the risk of poor, costly decisions. Relying solely on a rule of thumb is one of the most common shortcuts untrained valuation professionals use. In short, rules of thumb do not reflect a business\u2019s unique characteristics and metrics.\u00a0\u00a0<\/p>\n Creative agency valuation rules of thumb are often based on general industry formulas passed along by word of mouth over time. Usually, these formulas are based on outdated historical transactions or financial metrics not relevant to current or future industry dynamics. At best, rules of thumb represent an average. In the real world, there\u2019s rarely such a thing as \u201caverage.\u201d As an agency owner, you are more than aware that each creative agency is unique and not created equal. Rules of thumb create a false sense of precision and can be a dangerous approach. You may leave money on the table if you\u2019ve built a thriving, unique creative agency.\u00a0\u00a0\u00a0<\/p>\n One of the most common agency valuation rules of thumb involves a multiple of EBITDA (earnings before interest, taxes, depreciation, and amortization). Other agency rules of thumb are based on a revenue multiple.\u00a0\u00a0\u00a0<\/p>\n Beyond undervaluing (or overvaluing) a creative agency, rules of thumb create other challenges to the valuation process<\/a>. The two main drawbacks? Lack of adaptability and failure to consider an agency\u2019s unique characteristics.\u00a0\u00a0\u00a0<\/p>\n Let\u2019s dissect these challenges below.\u00a0\u00a0\u00a0<\/p>\n Rules of thumb lack adaptability. Creative agencies (including advertising agencies, digital marketing agencies, or one-stop marketing agencies) aren\u2019t static; they evolve with ever-changing market conditions, technological advancements, and marketing platform and strategy changes. Since rules of thumb are generally based on historical metrics, they often don\u2019t reflect recent industry or market shifts. They also don\u2019t provide solid or verifiable market data to support a specific rule of thumb valuation multiple.\u00a0\u00a0<\/p>\n In the creative agency industry, among many other industries, one major issue is the wide range of acquisition multiples seen in industry transactions. These multiples vary significantly across the board. While looking at average or median multiples from past data may provide a helpful reference point, actual transaction data reveals that acquisition multiples are all over the map and don\u2019t fit into the predictable, narrow range we would hope to see. For that reason, the use of a rule of thumb based on general industry transaction data isn\u2019t a credible way to value your creative agency.\u00a0\u00a0\u00a0<\/p>\n The true value of your agency can only be determined with established valuation methodologies utilizing agency-specific factors.\u00a0\u00a0\u00a0\u00a0<\/p>\n There is a range of financial information and metrics needed for an accurate agency valuation including size, operating profit margins<\/a>, debt levels, owner-related expenses, and rates of growth, among others. Many rules of thumb fail to accurately account for these financial metrics.\u00a0\u00a0\u00a0<\/p>\n In addition, nonfinancial metrics unique to an agency can dramatically impact an agency\u2019s value and are often missed or difficult to capture by these \u201cfast-track\u201d valuation methods. Examples of nonfinancial metrics include:\u00a0\u00a0<\/p>\n Even if you try to make upward or downward adjustments to a general industry rule of thumb multiple to \u201cfit\u201d your agency, making the right adjustments will be difficult. As discussed above, there are too many factors, both financial and non-financial, that will impact the right multiple for your agency. Trying to capture all relevant factors in these adjustments comes with great risk and oversimplifies agency valuation.\u00a0\u00a0\u00a0<\/p>\n We suggest choosing a valuation method that reflects these nonfinancial factors to capture the true nature and value of your creative agency, including strengths and weaknesses.\u00a0\u00a0\u00a0<\/p>\n Let\u2019s compare two agencies, Agency A and Agency B. Agency A and Agency B each have EBITDA of $1.5 million during the most recent year. While the two agencies might be similar in terms of EBITDA, there are significant differences:\u00a0\u00a0<\/p>\n When comparing Agency A to Agency B, it\u2019s clear that Agency B should likely have a higher, and perhaps significantly higher, valuation. However, if you use a simple rule of thumb multiple of say, 3.0x EBITDA, it would be difficult to account for the financial and non-financial differences between the two agencies and, without adjustment, use of a general rule of thumb may even value the two agencies equally. If you try to adjust the rule of thumb multiple upward or downward for Agency A and Agency B, how do you determine how much you should adjust the multiple and ensure you\u2019ve captured the appropriate adjustments?\u00a0\u00a0\u00a0<\/p>\n An inaccurate marketing agency valuation leads to poor decision-making that can be costly for the agency you\u2019ve worked tirelessly to build. Whether you\u2019re looking to sell to an internal team member or outside potential buyer, applying for financing, or considering the acquisition of another agency, it\u2019s important to get the most accurate value for your agency. A miscalculated valuation can lead to a significant underpayment or overpayment in situations involving a majority or minority shareholder transaction, such as a sale of the agency, shareholder buyout, or employee buy-in.\u00a0\u00a0<\/p>\n While a rule of thumb shouldn\u2019t be your first go-to method of valuation, rules of thumb can still provide a secondary market value to compare to a more thorough income and\/or market-based valuation. If there is a significant difference between the valuation approaches, you can dial into them and examine why they are so different. Using a comparison method can uncover unique agency features (or even errors) that can be highlighted or addressed.\u00a0\u00a0\u00a0<\/p>\n At the end of the day, rules of thumb can only be a rough estimate of your agency\u2019s value rather than a true measurement of your agency\u2019s worth. It\u2019s best to use a valuation approach that considers all angles of your agency, unique characteristics and market positions, and current market conditions.\u00a0\u00a0\u00a0<\/p>\nWhat are Creative Agency Valuation Rules of Thumb?<\/strong>\u00a0\u00a0<\/h2>\n
Challenges of Rules of Thumb<\/strong>\u00a0\u00a0<\/h2>\n
Lack of Adaptability\u00a0<\/strong>\u00a0\u00a0<\/h2>\n
Failure to Consider an Agency\u2019s Unique Characteristics<\/strong>\u00a0\u00a0<\/h2>\n
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Adjusting an Industry Rule of Thumb to \u201cFit\u201d Your Agency<\/strong>\u00a0\u00a0<\/h2>\n
Example of Rule of Thumb Limitations<\/strong>\u00a0\u00a0<\/h2>\n
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Consequences of an Unreliable Business Value<\/strong>\u00a0\u00a0<\/h2>\n