What Your Business Is Worth—and How to Sell It for More

A person uses a calculator to determine what a business is worth

There are many elements that impact what your business is worth. Sales, profitability, and growth trends certainly factor in, but other elements, like the sustainability of current sales trends, the channels that customers use to access your business, the systems and processes that you use to operate the business, and even your role in the day-to-day operations of the company, can play a big part. Further, because your business doesn’t operate in isolation, you’ll need to understand the value of your business in the context of its market performance, its pool of competition, and its ability to stack up against similar businesses that have been sold to other buyers to determine its true value.

Business brokers and valuation specialists can help you make sense of these numbers and find the right price to ask for your business. After studying your unique set of factors, they’ll likely take one of the following three approaches to valuate your business:

Approach 1: Multiplier

The team tasked with valuating your business will examine your earnings before interest, taxes, depreciation, and amortization (EBITDA) to calculate your net profitability. They’ll assign a multiple between 1 and 4 that’s based on the size of the business and the industry in which it operates.

The following chart presents some common ranges of multiples that valuation specialists use for various kinds of businesses. Ranges are used because the success of businesses within a specific field can vary. For example, in an owner-dependent business, such as an independent restaurant or auto repair shop where the business is heavily dependent on the specialized skills or relationships of the current owner, valuation specialists may recommend a multiplier between 1 and 2, depending on the size and success of the business. A small, moderately successful business in this category that nets $100,000 a year may use a multiple of 1.5 and be priced at $150,000 (or $100,000 x 1.5), while a more established business that nets $500,000 may be priced using a larger multiple of 2, resulting in an asking price of $1 million (or, $500,000 x 2).

Other types of businesses use different ranges of multiples:

 

How can I earn a higher multiple for my business?

You can earn a higher multiple by demonstrating the potential for a high return on investment (ROI) or by making moves to lower the risks in your business. You can achieve both objectives by offering verifiable proof of the following elements:

  • Predictable sales
  • A stable pool of customers
  • A high frequency of repeat sales
  • Access to suppliers of critical inventory
  • A pristine legal history
  • Well-documented practices
  • An established management team
  • Solid potential for growth

 

However, your broker or valuation specialist may recommend a lower multiple if your business is in distress, there are uncertainties in your market or customer base, or there are stalls in your business’s growth.

Approach 2: Discounted Cash Flow

Some valuation experts prefer to valuate businesses by calculating their discounted cash flow (DCF). Using this approach, your broker or valuation specialist will examine your earnings and make projections about your future cash flows.

This method is based on the premise that the cash your business earns today is worth more than the cash it may earn in the future. Future cash flows are projected 3-5 years into the future using a conservative rate of growth, and they are discounted by the rate of return the owner might attain by investing the cash flows in a risk-free investment vehicle (such as a U.S. Treasury bond) plus a discount rate for risk, which is often based on a business’s customer concentration, reliance on a small number of key employees, volatility in earnings, and threats of legal or regulatory concerns. The discount rate for risk may be as low as 20% for large businesses in markets that have moderate barriers to entry to as much as 50% for smaller businesses with minimal barriers to entry.

Once the future cash flows and discount rate have been determined, your broker or valuation specialist will discount each year’s future cash flows back to their present value with the following formula:

Present Value = Future Value / (1 + the discount rate)number of years

or

PV = FV/(1+r)n

After calculating the present value of each period, your broker or valuation specialist will sum the total and arrive at a net present value (NPV), which they can use to assign a fair value for your business.

Here is an example of how this approach works:

Business owner Dean is interested in selling his business and contacts Meg, an experienced valuation specialist, to help him establish a fair asking price. In the year that’s just ended, his business earned $100,000 before interest, tax, depreciation, and amortization.

Meg plans to use the DCF approach and will make projections about the next five years of earnings for Dean’s business. She makes the following assumptions, based on Dean’s business’s industry, customer concentration, and unique business factors:

Assumptions: Annual growth rate equals 5%
Discount rate equals 30%
Sale multiple equals 3.0

For each year’s projection, Meg calculates the EBITDA by multiplying the previous year’s EBITDA by the annual growth rate (5%):

EBITDA
Year 1 $100,000
Year 2 $105,000
Year 3 $110,250
Year 4 $115,763
Year 5 $121, 551

Next, she divides each year’s EBITDA by the following formula:

(1+the discount rate)the year that’s being calculated

This helps her to arrive at the following calculation for each year:

Calculation
Year 1 (1+.30)1
Year 2 (1+.30)2
Year 3 (1+.30)3
Year 4 (1+.30)4
Year 5 (1+.30)5

Meg divides each year’s EBITDA by the above calculation for each year to determine the present value of the business’s future cash flows:

EBITDA Divided by Calculation

Equals

Present Value
Year 1

$100,000

(1+.30)1

$76,923.08

Year 2

$105,000

(1+.30)2

$62,130.18

Year 3

$110,250

(1+.30)3

$50,182.07

Year 4

$115,763

(1+.30)4

$40,531.67

Year 5

$121,551

(1+.30)5

$32,737.12

Then, she multiplies the EBITDA from year 5 ($121,551) by the sale multiple she’s selected (3.0):

$121,551 x 3.0 = $364,651.88

She divides the result by the same calculation:

EBITDA

Divided by

Calculation

Equals

Present Value
Year 1

$100,000

(1+.30)1

$76,923.08

Year 2

$105,000

(1+.30)2

$62,130.18

Year 3

$110,250

(1+.30)3

$50,182.07

Year 4

$115,763

(1+.30)4

$40,531.67

Year 5

$121,551

(1+.30)5

$32,737.12

Sale

$364,651.88

(1+.30)5

$98,211.35

Finally, Meg adds each year’s present values to arrive at the net present value, which she uses to provide Dean with a fair asking price for his business:

Present Value: Year 1 $76,923.08
Present Value: Year 2 $62,130.18
Present Value: Year 3 $50,182.07
Present Value: Year 4 $40,531.67
Present Value: Year 5 $32,737.12
Present Value: Sale $98,211.35
Net Present Value $360,715.46

Approach 3: Asset-based approach

A third approach can be used to value businesses that are not expected to generate a profit or to set an absolute floor value for a sale. This approach adds up the fair market value of all the tangible assets to be sold. If a business is profitable, then owners should not accept an offer that’s less than this value.

 

Where can I find a valuation specialist?

We can connect you with a valuation specialist who can help you to determine what your business is worth. Click the Connect button below to get started:

If you prefer, you can ask your broker to help you with the valuation. Bear in mind that a broker’s valuation may not be impartial because many are motivated to sell quickly to earn fast compensation, even if that means selling below fair market value. For this reason, a third-party valuation specialist may be a better option for assessing the true market value of your business.

 

What about the valuation calculators I’ve seen on other sites?

Online calculators can provide you with a baseline assessment of what your business is worth. However, an experienced valuation professional will be able to provide a much more accurate estimate because they’ll ask questions and uncover the nuances that make your business worth more or less than others in your industry.

 

How should I proceed?

Plan to connect with a valuation specialist who can help you determine what your business is worth. You can use our search tool to connect with a specialist who is experienced in small business valuations.

Then, read our article, Maximize Your Sales Price: The Negotiation Strategies You Need to Master When Selling Your Business.

Selling your business is a complicated process, but we have articles and advice that can help you with every action you need to take. Log into your owner’s portal for free, personalized guidance that will help you succeed with your sale.

Share:

Share on facebook
Facebook
Share on twitter
Twitter
Share on pinterest
Pinterest
Share on linkedin
LinkedIn

Leave a Reply

Your email address will not be published. Required fields are marked *

Related Posts