Your small business is running well, and you’re aware of your performance numbers. Now, the question is: What is your business worth? Determining a single price might seem complex, but small business valuation methods can define your business’s value. Understanding how to value your business is helpful when seeking new investors or planning to sell.
How are Small Businesses Valued?
Valuing any business is a function of risk and reward. How much cash profits can the business make now and into the future, and what is the risk attached to achieving those profits?
One can determine the value of any business, even early stage businesses that have not yet starting earning revenue.In this instance, investors often assess pre-revenue valuations based on factors like the business idea’s quality, comparable business values, business plans, founder track record and the industry.
For businesses generating revenue, valuation can rely on actual financial data such as net assets, total revenue, seller’s discretionary earnings (SDE), and earnings before interest, taxes, depreciation, and amortization (EBITDA) in order to calculate a valuation
bizval focuses on a combination of Discounted Cash Flow, EBITDA multiples and Net Asset value methods as we believe these to be the most effective for small businesses.
5 Ways to Value Your Small Business
It is important to engage an appropriate expererienced professional such as bizval to assist you . Here are important steps and things to consider before you to start valuing your business.
1. Organize your Documents
To ensure accurate calculations, sellers and buyers should keep organized financial records. This is crucial for the transfer of ownership. Business owners need the following documents for a smooth valuation process:
- Licenses, deeds, and proprietary documents
- Profit and loss statements and balance sheets for the past three years
- Tax filings and returns
- A short overview of business or personal finances
Buyers may also want to see a business plan. This helps with accurate earnings projections and shows how the business will grow and turn a profit. It provides context about your company, detailing key services or goods. The business model should demonstrate how money is made and how buyers will reach customers to generate revenue if they purchase the company.
2. Understand the terms
Business valuation can be challenging unless you’re naturally inclined to understand business or numbers. Start by learning some key terms.
For example, Seller’s Discretionary Earnings (SDE) represents the total annual financial value an owner gets from a business. Also known as adjusted cash flow or recast earnings, it includes expenses like reported income and noncash expenses. It shows the actual revenue your business generates.
SDE Multiple determines value based on industry standards. It varies by industry, market volatility, location, company size, assets, and risk involved in ownership transfer. A higher SDE multiple means a higher business value. EBITDA uses an EBITDA multiple instead.
To calculate SDE:
- Find your pretax and pre-interest earnings.
- Add non-essential purchases reported as business expenses, like vehicles or travel. Include employee outings, charitable donations, one-time purchases, and your salary. Be ready to detail these expenses if asked.
- Subtract current debts or future payments from the net income.
- Compare with your SDE multiple.
This is just one method that is considered when valuing a small business.
3. Take Stock of Your Assets and Liabilities
Assets and liabilities are crucial for a business’s value. Both sellers and buyers need to know them well. Assets add value to your company, like intellectual property, production lines, or vehicles.
There are two types: tangible and intangible. Tangible assets are physical assets, such as real estate, equipment, inventory, and cash. They can increase or decrease in value over time.
Intangible assets can’t be seen or touched but hold value, like patents, trademarks, customer loyalty, and reputation. These cannot be separated from the company. Typically, and asset contributes to the businesses ability to generate future profits.
Liabilities are obligations that reduce a business’s value. They include accounts payable, business loans, accrued expenses, and unearned revenue. Business owners often address these liabilities and pay off debts after selling the business.
4. Research Your Industry
Knowing your industry’s trends aids buyers and sellers in setting a fair business valuation based on assets and the market.
It helps determine the SDE multiple and valuation methods, assess market share and growth potential, and see the selling price of similar businesses. An experienced valuation practitioner will be able to provide insight into different industry trends.
5. Get a Business Valuation
A business valuation can provide an accurate picture of your company’s worth. Many methods exist to perform a valuation. You can consult a professional appraiser who specializes in business valuations. They will assess your financial statements and market conditions to give you a clear value.
Alternatively, you can use online valuation tools that offer estimates based on the data you provide. These tools often analyse key metrics, helping you gauge your business’s financial health quickly. Always seek multiple sources of information to ensure a reliable valuation.
bizval used a combination of “tech and touch” to derive accurate and affordable valuations using online tools together with personal consultation to ensure that inputs are accurate captured and the results are well understood.
Small-Business Valuation Methods
There are multiple ways to determine what your business is worth. Each method focuses on factors like income, assets, or market data from similar companies. Ensure your final valuation is based on consistent calculations, and do not mix different methods.
Income Approach
The income approach to business valuation estimates future income generation. You can select from two common methods if you choose this approach.
Discounted Cash Flow Method
The discounted cash flow method calculates the current value of a business’s future cash flows. The forecasted cash flows are adjusted for the risk of buying the business. This method is ideal for both new businesses with high growth potential that may or may not yet be profitable, and for established business.
Capitalization of Earnings Method
Capitalization of earnings method: This approach calculates a business’s future profitability based on cash flow, annual rate of return, and expected value. Unlike the discounted cash flow method, it assumes stability by using calculations from a single time period. It’s suitable for established businesses with steady profits.
Many online business valuation calculators use a form of the income approach. If you have detailed financial information, consider a tool that evaluates profit, revenue, assets, and liabilities.
Asset-Driven Approach
A common method values a business based on its assets. The Adjusted Net Asset Method calculates the difference between a business’s assets—such as equipment, property, inventory, and intangible assets—and its liabilities, adjusted to their fair market values. Asset valuations are useful for tracking spending and capital resources internally.
To assess based on assets, list your assets and assign them a monetary value. For depreciating assets, estimate the difference between the sale price and depreciated value. A good estimate is how much the equipment would sell for now.
Familiarity with your equipment and production allows accurate estimates of asset value and depreciation. Even without adjusting to the current market, you can gauge a business’s material value.
This method is useful for businesses holding investments or real estate, those not profitable, or those looking to liquidate. Buyers will be interested in the value of your investments or equipment in such cases.
Market Approach
The market approach values a business by comparing it to similar companies in the same industry. This method helps set a fair selling or purchase price based on the local market.
Any business can use this valuation if it has enough relevant data for comparison. It is particularly useful for fast-growing businesses and industries. However, no two businesses are identical so comparatives should always be viewed in conjunction with other methods.
Consider Intangible Value
Your business has more than just physical assets like real estate. It also has intangible assets. These include patents, copyrights, and trademarks. Your brand’s reputation and customer base are assets too. Logos and slogans are part of your brand assets.
An email list with 10k subscribers is a marketing asset. A strong team or business idea is an intangible asset. For example, a supplement business with well-known chemists on its team is likely more valuable to investors than a similar business without trained scientists. Typically, intangible assets only have value in so far as their ability to generate future cash profits.
Reasons to do a Small-Business Valuation
You often need to estimate your business’s total value.
Raising Funds
To secure a business loan or investor funding for your startup, you must demonstrate your company’s value.
Key man or buy-sell insurance
Business valuation allows you to ensure that you insurance needs are adequate should anything happen to one of the key shareholders or management.
Creating a Growth Plan or Exit Strategy
Knowing the present value of your business shows its growth potential or helps with your exit plan.
Shareholder disputes and buy-outs
Business valuations are essential when negotiating certain shareholder disputes or buying out existing shareholders.
How to Value a Small Business if You’re Looking to Sell Your Business?
When valuing a small business for sale, follow these key steps:
- Gather Financial Records: Collect all relevant financial documents, including tax returns, profit and loss statements, and balance sheets.
- Assess Assets: List all physical and intangible assets and assign monetary values to them.
- Choose a Valuation Method: Decide between income, asset-driven, or market approaches based on your business circumstances.
- Calculate Value: Apply the chosen method to estimate your business’s worth. Make sure to use consistent calculations.
- Seek Professional Help: It is strongly advised to use an experienced business appraiser for an objective and comprehensive valuation.
- Prepare for Negotiations: Use the valuation to inform discussions with potential buyers and set a realistic asking price.
What is the Best Valuation Multiple for a Small Business?
When valuing a small business, experts often use valuation multiples. Multiples give an indicative valuation range for similar businesses but must be used with caution. In the same way that one can’t say that 2 men of the same height each have the same athletic ability, we can’t say that 2 business with the same revenue will have the same valuation multiple.
Here is a range of average multiples that small businesses may use in transactions. Each business is unique, so the value range can vary. Furthermore factors such as region, industry, inflation and interest rate environments all can have a significant impact on multiples. Below, we outline typical EBITDA, SDE, and REV multiple ranges for small businesses.
- EBITDA Multiples for Small Businesses
The average EBITDA multiples for a small business are typically 3.00x – 5.00x. Experts multiply the company’s EBITDA by this multiple to determine its fair market value.
EBITDA X Multiple = Value of the Business
- SDE Multiples for a Small Business
Small businesses generally have an SDE multiple range of 1.5x – 3.0x. Appraisers multiply a business’s SDE by this multiple to find its value.
SDE X Multiple = Value of the Business
- REV Multiples for a Small Business
Small businesses usually have a revenue multiple range of 0.50x – 2.00x. Appraisers find the implied value by multiplying the company’s revenue by the multiple.
Revenue X Multiple = Value of the Business
In particular, revenue mutiples can be very misleading, and they don’t take into account the actual profitability of the company. For example, all things being equal, a company with a revenue of $1m and a profit of $500k, would likely be far more valuable than a company with revenue of $1m and a profit of only $50k
FAQs
How many times earnings is a small business worth?
There are a number of different valuation methods. The 3 primary methods are: Discounted cash flow; Earnings multiple and Net Asset Value methods. bizval’s express calculator can give a reasonable estimated range in minutes. Typically, small businesses are valued at between 2-8 times EBITDA.
Where can I find business valuation multiples by industry?
You can find business valuation multiples by industry through multiple sources. Professional valuers (such as bizval), Industry reports, financial databases, and market research firms often publish these figures. Online platforms such as Bloomberg, PitchBook, and IBISWorld provide relevant data.
Publicly traded companies also disclose valuations that can be helpful. Look for local business associations or chambers of commerce, as they may offer specific insights relevant to your area. Always ensure that the data you collect is current and reflects market conditions accurately.
How can I increase the market value of my business?
To increase your business’s market value, consider the following strategies:
- Improve profitability by reducing expenses and increasing sales.
- Enhance customer satisfaction to build loyalty and attract new clients.
- Invest in marketing to expand brand awareness and reach.
- Diversify product or service offerings to meet broader market needs.
- Focus on improving operational efficiency to streamline processes.
- Strengthen your online presence through a professional website and active social media engagement.
- Maintain accurate and up-to-date financial records for better valuation assessments.
- Invest in employee training to improve productivity and retain skilled staff.
- Reduce owner dependency by implementing systems to ensure the business is not overly reliant on you.
Who Can Value a Business?
It is advisable to use a professional valuation expert who has experience across a range of businesses and industries. bizval is one company who provides accurate and affordable valuation delivered with a personal touch.