Four ways to value your business

There are many factors to consider when valuing your business.

There are many reasons to determine the value of your business. Regardless of the reason, how will you affix a price tag to this enterprise you've built from nothing? It's said the value of any business is the price a buyer is willing to pay. And while the purchaser will be interested in your reputation and clientele, the emotional attachment you have to your business — and all those long nights working on it — might make it hard for you to determine the value of your business.

Ascertaining the worth of your business is likely not a simple calculation you'll determine in one setting. It's an assessment worth making in consultation with a professional business valuator — someone who has recently priced similar ventures.

There are many ways a business can be valued — and lots of lenses through which buyers may be seeing your business — as well as a number of methods for determining value. First, though, a wise seller will want to take the time to prepare for valuation.

Get Prepared
Hopefully, prevailing circumstances allow you to proactively prepare for valuation. Of course, all kinds of surprising situations might prompt the sale of the business — a health situation, for example — but those who allocate time to prepare will fare best.

Ideally, a seller will assemble all financial documents related to the business. This will include cash flow statements, debt statements, details of annual turnover plus profit and loss statements.

A list of physical assets — equipment, existing stock, machines, buildings — should be compiled alongside a detailed list of less tangible assets like intellectual property and customer loyalty details. Sellers should also gather all legal documents pertinent to the business. These will include your ABN number, leases, contracts, certifications and permits.

Finally, assemble your business profile. This document should look similar to your business plan and echo all of the information in that document while also describing any and all relevant market conditions, sales information and business procedures.

Finally, organise details about employees, suppliers and clients/customers.

Prospective buyers will generally be most interested in the following information about your business:

  • Tangible assets: Any office equipment or other visible assets.
  • Intangible assets: These factors include your business' public reputation and things like brand loyalty, as well as intellectual property assets (patents, trademarks and copyrights) growth potential and perhaps even your location.
  • Licences: Various permits and distributor rights.
  • Years of operation: A business with a demonstrated track record of success is always more valuable.

The intentions of marquee staff will be another consideration for a purchaser. If a valuable colleague will likely depart upon the sale, this could drive down the value of your business. No buyer wants to see staff depart and take clients with them, either.

Set a number
There are several formulas for calculating the value of a business. Chief among them are:

Asset valuation
This is a solid place to start. This valuation will provide you a net figure. It's likely to yield a lower number, though, because it does not factor intangible assets into the calculation.

To find the asset valuation, you'll want to add up the value of everything the business owns: all cash, commercial space, furniture and vehicles. Next, deduct all debts and liabilities.

Revenue-based valuation
According to The Practice Lab, this is a common way to value a business. It's easy to calculate and sector-agnostic.

To arrive at this determination, take the total annual revenue of your business and multiply it by a predetermined, industry-standard amount. You'll find the multiplier by researching through brokers or other professionals who have sold similar businesses recently. 

Price-Earning ratio
This method assigns value to a business by dividing its profits after tax. A company with a share price of $50 per share and earnings per share (after tax) of 10 would have a P/E ratio of 50/10 = 5.

The formula is Value = Earnings after tax x P/E ratio. Once the P/E ratio is determined, multiply recent profits after tax by this figure. So if the P/E ratio is 5 for a business with post-tax profits of $500,000 the business valuation would be $2.5 million.

Entry cost valuation
This is a determination of what it would cost to start your business from scratch today. It's a good way to help a prospective buyer understand the time they save by way of acquiring your assembled business.

To calculate this sum, imagine you're creating your business from scratch — today. What's the cost of all your equipment? How much would it be to train all of your staff and acquire customers?

It's essential for sellers to understand that every buyer has a different motivation. Let's say an IT business has 10,000 help desk contracts but sees little profits. Some buyers will see little reason to acquire the company. A large competitor may buy the business, paying its current owner per contract, and begin servicing those contracts in a way that generates profits.

Reach out
The experts at WMC understand that different metrics matter in different industries. We would take great pride in working with you to understand all the tangible and intangible assets of your business. No matter why you want to establish the value of your business, we will take great pride in assisting you. Contact us to learn more.

Latest Business Advisory Articles