May 5, 2017
How To Value A Business
For many small business owners, the end game of starting the business is to sell it. This sale, they hope, will allow them to live comfortably in retirement and allow them to step away from work altogether. As such, many do not create retirement plans, are willing to leverage assets like homes, vehicles, or cash savings, and put every dollar earned back into the business. For some, the exit strategy is in 5 years, and for others, it is 40. Still, others even plan to sell the business to a relative. But no matter the succession plan for the business, when that time finally comes, these business owners much some up with a value for the business.
Unfortunately, valuing a business can be harder than you might think. And for business owners who put their entire lives into a business, it can be hard to accept a value under what they think the business is worth. As such, it is important to start thinking about how to value a business several years before actually selling. This will allow the seller to consider whether the value will sustain retirement, whether it is a good time to sell, and if anything needs to be changed in the current business model to improve its value.
So if you are at a point where you need to determine the value of your business, you need to start by doing your research and cleaning up your accounting. While you may have a good idea of what your sales and revenue are, if it is not well documented, you are going to have trouble finding a buyer who will pay full price for your business. Bad bookkeeping is considered extremely problematic to potential buyers. So once you have cleaned up your books, you can begin calculating your value.
Start by calculating your EBITDA (earnings before interest, taxes, depreciation, and amortization). This gives a true idea of your company’s profitability and is a common value used for valuation. From here, you need to find out the industry standard multiple for your industry. This can be difficult to discern, however, the Small Business Association does give rule of thumb valuation multiples for industries.
From here, you want to analyze your numbers to see what is impacting your valuation. Would putting more money into a part of your business expand sales? Would changing manufacturers cut costs on a more profitable part of your business? Is there a part of your business that did not succeed as you had hoped? You need to be honest here, and it may be time to cut a part of what you do to enhance the profitability and value of what is working. No one wants to buy a business that needs to be dismantled – they would rather buy the part that works.
Once you have figured this all out, the last step is determining the value of inventory, machinery, and property. If you own the building you work out of, be sure to value that property and put that value in the value of your business – assuming you are giving that in the sale. If you work in an industry that utilizes machinery, be sure to value that machinery. Same goes for inventory or prepaid leases. Anything of value outside of the revenues needs to be accounted for, as it is an asset being transferred in the sale.
Once you have finished valuing the assets of the business, add it to the value (after the multiple) and this is a pretty good idea of what your business is worth. Of course, anything is only worth what someone will pay for it, so once you are ready to sell, you will need to see what potential buyers offer. You can start by contacting competitors or others in similar spaces who may want to grow. You can also hire a company to help you go to market.
No matter how you decide to sell your business, being sure you have properly valued it will ensure you get a fair price and will help you in the process of finding a buyer.