Thinking of valuing your business?
Knowing the value of your business is not limited to the process of selling it. While this is the most common reason, you may want to plan for its future or get insights into how it is operating. No matter the context, getting an accurate valuation of your business is an advantageous venture with multiple benefits. You should know your business worth whether you are selling, merging or creating a strategy for your business's development.
Getting a valuation on your business can be a challenging task. Several parts that make up your business will need to be considered. This guide offers reasons to value a business, suitable methods that will generate valuations, and sector-specific valuation examples. You can start off by identifying what type of business you have and the circumstances surrounding your valuation.
You may need a quick valuation, so we discuss methods and tools that will give you a swift outcome. On the other hand, we will also discuss ways you can take your time and get a more comprehensive valuation. Whether you are a small or large business, getting a valuation will provide insights into how your business functions and what you can do to improve it.
What is a business valuation and why should you consider it?
The purpose of a business valuation is to paint an accurate picture of your business’s worth. This is done by considering multiple barometers of your business’s financial health. Regardless of your reason for valuing your business, getting an accurate valuation will give you granular insights into its functionality and financial value.
Possible reasons for valuing a business:
- You want to know your business's value before selling it
- You want to gain a better understanding of your business so you can have practical expectations for the selling or buying process
- You want to find where the strengths and weaknesses lie
- You want to identify areas that need improvement
- You want to determine if its success is sustainable
Benefits of valuing a business
- Setting a credible asking price before selling the business
- Providing information that reassures buyers and reveals ways they can build further value
- To inform an exit strategy for growing, improving and eventually selling the business
- Securing capital investment from investors
- Setting the price of shares for purchase by employees
Valuation criteria criteria
There will be different criteria that affect the value of a business, and they will vary in importance. These can range from your financial history to your team of staff. Here are some basic factors you will need to consider when valuing your business:
- The circumstance of the valuation: this may be a voluntary or forced sale. This can impact the valuation and power dynamic during negotiations
- The value of your tangible assets: this can include cash, premises, land, machinery, furniture, stock, equipment and employees
- The value of your intangible assets: valuations can account for historic and projected profits, revenues and cashflow. Projections are estimated based on your intangible assets such as the business's age, goodwill, intellectual property, and the business's core values and culture
- The durability of these assets and wider economic conditions or external influences. For example, a gloomy economic outlook would not undermine the appeal of a recession-resilient business like a pawnbroker or convenience store. And a business whose revenues have been growing steadily over many years will offer the stability that is much prized by buyers.
All these factors are parts of your business that work together in giving it value. Considering these factors will not only help you manage the risk profile of your business, but it will also provide a detailed outline of your business's worth to potential buyers.
Getting a valuation will be particularly important if your business has grown significantly in recent years. You may want to bring in a partner, so a valuation will help you determine your equity and share value. Whether you are a limited company, a private company, public company or another type of business, understanding how these factors affect the value of your business is essential.
Business Valuation Techniques
Naturally, how you value a small business (like a café) would differ from how you value Amazon, Apple or Accenture. Most business valuations consider the value of physical assets and income and often draw on multiple valuation techniques. We briefly cover these in our selling guide, but we will discuss them in more depth here.
The Asset Approach
This approach is effective for businesses that are asset-rich, like a property investment firm or manufacturers. Used alone, it is also useful for businesses in liquidation. The asset valuation method establishes the ‘net book value' (NBV) – or net asset value – by subtracting the total value of liabilities from the total value of business assets recorded on the balance sheet.
The resulting figure is then adjusted for factors such as changes in asset values, bad debt and ageing stock that must be sold at a discount. Keep in mind though; this approach does not consider future earnings or goodwill.
Seller's Discretionary Earnings
If you have a small or middle-market business, this method would be suitable. The SDE method considers your total cash flow including discretionary items like salaries, benefits, and depreciation. Remember to include your expenses in this method, like your rent and labor.
This method gives you a strong reflection of your business's profit potential by calculating what the business's earning would be with the buyer.
Price-to-Earnings Ratio (P/E ratio)and EBITDA
The price-to-earnings (or P/E) ratio method establishes the value of a company's earnings per share. Used to determine whether a limited company's stock price is overvalued or undervalued, it usually only applies to companies listed on the stock market.
Determining the most accurate number for your P/E ratio depends on your type of business. It is a good idea to compare your business's P/E ratio with others to find their relative value.
The acronym EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortisation. A company valuation based on EBITDA will look at the net earnings before any other facts are considered. Remember that this method ignores many factors that could impact the profitability of your business.
Entry Cost Evaluation
Entry cost valuation predicts what it might cost, approximately, to establish the business from scratch, including the cost of fitting out premises, employing and training staff, developing products and services, and establishing a customer base and reputation.
The hypothetical business must be built as cost-effectively as possible, for instance by locating premises in a less expensive area if this wouldn't credibly weaken profitability.
Discounted Cash Flow
The discounted cash flow method calculates the present value of projected cash flows. A discount interest rate – typically around 15%-25% – is applied to account for the ‘time value of money', whereby cash becomes more valuable over time due to its income-generating potential.
Based on long-term assumptions, this income-based approach is typically used by the largest companies with long, consistent trading histories such as banks, utilities and energy companies.
This relatively basic method calculates a figure based on valuations of similar businesses – in terms such as size, sector and location – that are available in the public domain
How can I secure a realistic valuation?
You can maximize your business valuation and eventual sale price by improving the business beforehand. You can do this by using appropriate valuation techniques and being strategic about how you market your business and negotiate a deal.
Precise, accurate and continuous planning is one of the best ways to ensure your business continues to develop and thrive. Keep assessing where you are as a business and anticipate unforeseen circumstances. Getting a valuation is not only about your business's net worth, but also about fine-tuning your business through strategic planning.
Negotiation skills - confidence is key
Before going into the negotiation process, know where your business's weaknesses and strengths lie and what improvements you will need to make. This knowledge will boost confidence in your negotiation skills because you'll have a clearer picture of your business's worth. An accurate valuation can provide these types of granular details.
Remember that you will need to be able to explain how you arrived at your asking price and why the assumptions underpinning your valuation are trustworthy.
Seek professional advice
When choosing a professional to assist you with your valuation, make sure you find someone with appropriate experience and credentials. The person you enlist should be familiar with your sector and size of business, and their credentials should match your business's needs. Seeking and external expert will be beneficial as they can offer an objective, well informed valuation that boosts credibility to your asking price.
An intrinsic factor that will affect your valuation is the size of your business and the specific product or service you offer. When seeking professional assistance, ensure that person has experience valuing businesses of similar sizes so that you can get a fair market value.
While there are similarities that run through all valuation processes, each sector will have different circumstances. To illustrate the valuation process in practice, we offer some examples of different sectors below.
How to value a gas station
Gas station values are typically appraised using one of three valuation methods.
The income-based approach, which best suits gas stations with a long trading history of reliable earnings growth, is calculated by dividing a one-year cash flow projection by the market capitalization (or market cap) rate.
The market-based technique, meanwhile, arrives at a valuation based on the going rate for similar private businesses and comparable share values.
Finally, discounted cash flow, based on the current value of free cash flow available over the life of the business, can be credibly used by both long established, low growth businesses and high growth, market entrants.
How to value a retail business
You may have a small, one-person operation or a large retail space with several employees. Regardless of your context, you will need to have clear, detailed records of your business in the years leading up to your valuation. Ensure you have records of your percentage of sales, the value of real estate or lease duration, fixtures and stocks.
You should also compare your business to similar ones to see how it fairs with them. Comparing your business to others will give you a holistic understanding of the fair market value.
How to value professional service firms
Professional service firms - broadly defined as knowledge-based businesses such as legal, consultancy, and accountancy firms – are light on tangible assets and vulnerable to changing circumstances that weaken their intangible assets.
As such valuations are often based on projected earnings generated from historic trading performance, stellar reputation, intellectual property, products and services.
Much value also lies in the personal relationships between owner and clients.
Valuing your business with the ValueRight online tool
ValueRight is a free BusinessesForSale.com self-service valuation tool. To get all the benefits of the tool, ensure you provide as much information as possible when you begin the valuation. The process is relatively simple, and you can get a personalized valuation.
An advantage of using this tool is that your business will be compared to 20 years of BusinessesforSale.com data that will correctly benchmark and value your business. Inputting all your information into ValueRight will only take you around 45 minutes and all your information will be stored securely.
Before you start your valuation, remember to have access to at least a year's profit and loss statements. If you can, three years of statements will offer a more concise picture of your business and therefore, a better valuation.
The ValueRight service is free, and you can access it here. Once you have put in all the necessary information, you will be given a downloadable PDF report that you can keep, show to potential buyers or professionals who can evaluate the results. This document will be your business valuation report.
For more information, you can contact the support team.
Do you still need an accountant?
You can, of course, go to an expert to get a valuation of your business. It is vital that you find the right person who has the right experience. You should find out what experience and credentials any accountant has before getting them to value your business.
Although accountants can value a business, valuation agents can do the same. They can appear in various sectors like business brokers, lawyers, and chartered surveyors.
If you are concerned about financial obligations, ValueRight can give you an accurate valuation and you can proceed and list your business at a price that is fair and attractive to potential buyers. As we said before, this is a suitable, safe, and effective option if you are concerned about the cost of a business valuation.
Using ValueRight before approaching a professional will provide you with useful knowledge. Being as informed as possible will allow you to stay on top of anyone you hire and will take any uncertainty out of the process.
You will, therefore, already have an estimate of your enterprise value and you can be sure that the person you hired is doing it correctly.
Our rule of thumb
BusinessesForSale.com understands the importance of valuing a business correctly, and we continue to use 20 years of knowledge and data to ensure the best outcome for both the seller and buyer. Thousands of businesses are bought and sold through our site, and we use this information to analyse the best ways to correctly value a business and advertise it to potential buyers.
Step 1: Plan ahead
Comprehensive planning will give you the best results. If you are getting a valuation before selling your business, the sooner you begin planning the better. If you have an idea of when you want to exit the business and get a valuation, start to improve areas of your business that need attention. This will likely get you a better valuation before you sell.
Step 2: Prepare the business
There are a few ways you can prepare your business for a better valuation, and these will vary depending on the type of business you have. You may need to boost sales, build better goodwill, reduce operating costs or protect the business from long-term threats.
You could also improve the business by updating your training procedures or upgrading your software. Even the most basic improvements will improve your valuation. Ensure you get your paperwork in order and payments up to date. Identify if there are any areas that need to be updated, like record keeping.
Step 3: Get an accurate valuation
To find an appropriate buyer, you need to get a realistic, independent business valuation, along with careful preparation, effective advertising and perceptive negotiation.
Several factors will impact your valuation or the selling price that you are willing to advertise. Even if you are hoping to quickly value your business, the more methods and factors you consider, the more accurate the valuation will be. Achieving an accurate valuation can be challenging without professional help, so it is worth reviewing our service directory to find suitable business brokers, accountants, lawyers, and other business advisers.
The last step: good listing increases business value
Valuing a business is one step towards selling it successfully. The next step will need to focus on strategic advertising that will get you exposure to the best buyers and the biggest market. List your business on a platform that will guarantee the most exposure.
Remember that your advert should exemplify features of your business that will appeal buyers. These can include: a high footfall trading location; low rent or an easily transferable lease; a long track record of healthy, growing profits; unique and patented products; and availability of seller financing or owner willingness to stay on post-sale.
A well-crafted business listing is essential. Be clear about what it is that stands out about your business and all the reasons why it is valuable to someone looking to invest in or buy it. Make sure that buyers know your business is worth investing in.
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