Thinking of valuing your business?
You will have different reasons for wanting to value your business. No matter what they are, getting an accurate valuation should be a priority. It is an invaluable process with multiple benefits. Your business will have distinctive characteristics, so the methods you use need to suit the type of business you have.
The valuation process can be complex, so we offer you a guide that examines the reasons you may have for valuing your business, factors that affect a valuation, sector-specific examples and tools and services that can support you during the process.
If you have already planned your exit strategy and you need a quick valuation, we provide methods and tools for this. Alternatively, you may be at the beginning process, so we also offer a guided process that details what you can expect and where you can turn to for professional support.
Whether you are a limited company, a private company, a public company, or any other type of business, finding out more about valuing a business should at the top of your to-do list.
What is a business valuation and why should you consider it?
In essence, the purpose of a business valuation is to paint an accurate picture of your business's worth. Valuations consider some combination of the market value of assets, current and/or projected revenues and/or cash flow and other barometers of your business's health. 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
Criteria that affect a business valuation
There will be different criteria that affect the value of a business, and they will vary in importance. These can range from your fair market value of tangible assets and your historical financial performance. 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.
These are the areas you will need to consider when valuing your business. Not only will it provide a comprehensive outline of your business's financial health, but it will also help you manage the risk profile of your business.
If your business has grown significantly since you started it, you may be looking to bring in a partner. In that case, you will need to have a clear understanding of your equity and share value. Whether you are considering a loan from a bank, looking for potential buyers, or mapping out plans for your business, considering these factors will illustrate where your business is and how it can grow.
Business Valuation Techniques
Naturally, how you value a small business (like a restaurant) 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.
Having a clear business plan in place is vital. It will provide an important framework for how your business is running. This plan should develop over time and detail your business's strengths and weaknesses. Strategic planning will add value to your business and make the selling process easier.
Negotiation skills - confidence is key
When it comes time to negotiate the sale of your business, investors and buyers will want to know how you arrived at the assumptions underpinning your valuation. Make sure you can answer their questions and convince them that your business is worth investing in. This will increase your confidence in the negotiation process and lead to the price you want.
Seek professional advice
Seeking a professional expert will contribute impartial, well-informed knowledge to your valuation. This contribution will add credibility and justification to your asking price. Ensure that you find someone with appropriate expertise and knowledge in valuing businesses like yours.
The size and sector of your business and the type of product or service you offer can affect the way that it is valued. You can receive an accurate, fair market value if you find someone who has successfully valued a similar-sized business.
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 petrol station
Petrol 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
With over 20 years of knowledge, BusinessesForSale.com understands the importance of valuing a business correctly, ensuring the best outcome for both the seller and buyer. The process is not straightforward, and many factors need to be accounted for. The methods you choose need to suit the type of business you have, and they need to consider multiple criteria. It may seem like a daunting process, but there are steps you can take to ensure the best outcome:
Always plan ahead. Getting a satisfactory business valuation begins long before you enlist it for sale. Once you have an exit strategy in place, you will need to improve areas of your business that need attention. This will maximise its appeal and value, and this will be reflected in the valuation.
Once you have a plan in place, start preparing your business for its sale. There are many ways you can do this: 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.
Finally, get a valuation that accurately represents your business's worth. You don't want to undervalue or overvalue it, so professional help is recommended. We offer helpful tools and a service directory that will connect you to business brokers, accountants, lawyers and other business advisers.
There is a big market for an honest company that is well run. So, run your business with an eye on the end goal of selling (even if this is not your intention).
The last step: good listing increases business value
Make sure you do not undermine all your hard work by getting your marketing wrong. The best starting point is to list your business on a platform that will successfully market it to potential buyers. This advert needs to be well drafted and distributed to ensure the widest possible exposure.
Adverts should prominently flag features that will appeal to buyers: 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.
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