The true value of an agency is 'whatever someone turns out to be willing to pay for it while you are simultaneously willing to sell' and so is only properly found through negotiation if you decide to sell.

But having a rough internal estimate of agency valuation can be a very useful metric for discussion at Owner and Board level in the business. It's even useful if you plan never to sell.

Of course, what matters in tracking that metric is the changes. The figure itself won't ever be 'right', but the changes in it will give you some idea of the growth in value of the business. To track those changes you need to stick with the same way of calculating it all the time. Otherwise you're gaming the number, and it's not a useful thing to discuss.

There are lots of ways that an agency business can be valued, at varying levels of complexity, but for the purposes of internal use we want to stay relatively simple.

Valuation methods

Here are some approaches to consider. Decide what feels right for your agency and then stick to it, because it's monitoring the change that matters more than the actual number.

Profit x multiplier

The very simplest back of a fag-packet approach is to take the net profit from your most recent full-year accounts and multiple it by a factor you have set.

But first you have to get to a real profit number. That means that if the owners of the business also work in the business, but pay themselves a minimal salary and take pay via dividends, then a reasonable salary amount should be subtracted from the net profit figure from the business. That will give your Real Profit

A sensible base multiplier factor for agencies to settle on is 5. So you are effectively saying that the company is worth 5 years of current annual profits. In reality, of course, some agency sectors have lower multiples, and some have higher multiples. It can be open to discussion initially, but once you've set it, stick with it. It's about monitoring the change.

This gives us the calculation.

Valuation = [Recent Full-year Real Profit] x 5

This on it's own isn't very realistic though, so we can go a little further.

Weighted multi-year profit x multiplier

You can add an extra layer of complexity to get a valuation that considers the longer track record, and future potential, of the agency by using a multi-year weighted approach.

That means you take the net profit figure from each of the last two full year's accounts, plus the forecast for the current financial year, plus a rough forecast for the year after that, and use a weighting factor for each year as follows:

Year -2 -1 Current Year Forecast +1
Weighting 0.2 0.4 0.3 0.1

You can adjust these weightings if you wish, but they should always add up to 1, and it is sensible to place slightly more weight on 'actual' numbers than on forecasts.

As above, we'll take 5 as a sensible basic level for the multiplier. Remember to use the Real Profit for each year (see above).

This gives us a calculation:

Valuation = ([Year -2 profit * 0.2]+[Year -1 profit * 0.4]+[Current forecast profit * 0.3]+[Next year's forecast profit * 0.1]) * 5

But, still, this is very rough. We'll look in a moment at how we might adjust the multiplier based on factors that a buyer would consider in due diligence.

Discounted Cash Flow method

This is a good method to use if you are negotiating the sale of the business, but isn't so valuable as an internal metric because of the complexity of calculation, and the ability to game the number. It's an opening for a negotiation. It's out of scope for us to cover here as we're focusing on getting to your own rough valuation. But you can Google for 'Discounted Cash Flow method of valuation' to get guides on how to calculate it.

Adjusting the multiplier

In the examples above, we suggested using a simple multiplier of 5 to get a rough and ready number that you can track over time. As an internal measure, what matters more is seeing how the valuation changes over time, than how precise it is.

But a multiplier of 5 would be a little high for some agencies, while other agencies can get multipliers of  even up to 10ish if their business is really quite special and in a hot sector.

So, if you really want to tune your multiplier, here are some factors you can consider...

For each of these factors below, if they are not present you can deduct or add a little to the multiplier (say 0.3 for each one as a very rough measure):

  • The agency operates in a hot sector, or has a specialism that is in very high demand at the moment
  • The agency has a track record of consistency, showing regular predictable profits in the last 3-5 years
  • The agency has a track record of continuous growth in sales over the last 3-5 years
  • No single client accounts for more than 20% of sales revenue each year
  • There is a substantial percentage (40% plus) of sales income that is down to recurring income
  • Future income is contractually committed
  • The agency has a good sales pipeline, with a clear track record of conversion
  • There is a low client churn rate, with high lifetime value of clients
  • The agency has very solid processes in place, which means the business runs very smoothly without the founders
  • The agency has a strong management team who can run the business without the founders
  • The agency has established a strong brand with an excellent reputation
  • The agency has developed its own intellectual property for methods, technology or other things that give it a competitive advantage
  • The agency has low staff turnover, low sick leave, high utilisation and high staff satisfaction
  • The agency has professionally-drafted contracts in place with all staff, clients, suppliers and contractors.

Sense-check: If you end up ticking off all of these, check you're being really honest with yourself before high-fiving.

This checklist can be useful in terms of considering the value you are creating with your business for yourself as the owner, as well as considering it as how prospective buyers would see it.

If you get to having external buyers kicking your tyres in due diligence though, they'll have more complex valuation methods and the valuation is unlikely to exactly match this very rough internal figure. When you come to considering selling your business, your M&A advisers can carry out or commission a more thorough valuation.