What Does Multiple of Revenue Mean?
Multiple of revenue, or revenue multiple, is a ratio that is used to measure a company’s value based on its net sales or gross revenue. It is used in the valuation of any given business. However, some financial experts say that this valuation method is not so reliable as it just measures the revenue of a company, which some consider a poor indicator of value.
Divestopedia Explains Multiple of Revenue
Multiple of revenue is equal to the selling price of a company divided by 12 months’ revenue of the company. The appropriate revenue multiple to apply to a subject company is obtained from comparable public companies or precedent transaction multiples. Getting a significant statistical population gives the multiple of revenue valuation a higher reliability. This can give you the range of multiple of revenue as well as the average, which can be used for valuing the subject company.
The revenue multiple is most commonly used in the following valuation circumstances:
1. For start-up companies that are not yet maximized for profitability
2. For professions like legal or medical offices or accounting firms
For example, the selling price of a comparable start-up IT company called AB Incorporated is $5,000,000. Their annual revenue is $1,350,000. Using the formula, $5,000,000 (selling price) / $1,350,000 (annual revenue), the multiple of revenue is 3.70x. Next, the same computation is performed for five more companies of the same industry and the average multiple of revenue equals 2.25x.
To estimate the value of a subject start-up IT company called CD Corporation that has an annual revenue of $2,000,000, multiply the revenue by the average revenue multiple of 2.25x. The result is an estimated valuation of $4,500,000.