You’re ready to sell your business. Now, the real question is: how much should you sell it for? Should you base it on your revenue? Add up the value of everything your business owns? How about the brand and your company’s potential for growth? How do you account for that?
In this blog, we will answer all your questions about how to valuate a small business. Keep reading to learn more.
What is Valuation in Business?
A business valuation is the process of determining the economic value of your business. It quantifies the current value of your business in dollars and cents. This isn’t just about tallying up the cash in your register or the value of your equipment.
It encompasses everything—from your tangible assets like property and inventory to intangible ones like brand reputation, customer relationships, and even your company’s potential for future growth.
Small Business Valuation Methods
There are many ways to value your business and specialized valuation experts at Griffiths, Dreher & Evans, PS, CPAs can help you choose the right method. Below are the most common valuation methods. We will explain how each method works and when it’s best to use them.
1. Market-Based Approach
The market-based approach determines your business’s value by comparing it to similar businesses that have recently sold. It’s basically like checking housing prices in your neighborhood before selling your home.
This method relies on industry-specific valuation multiples, such as revenue or EBITDA (earnings before interest, taxes, depreciation, and amortization), to estimate worth. For instance, if comparable businesses in your industry typically sell for two times their annual revenue, and your revenue is $500,000, your business might be valued at $1 million.
This approach is ideal if your industry has readily available sales data or a strong market for similar businesses. However, it can be less reliable if your business operates in a niche market with fewer comparable sales.
2. Income-Based Approach
The income-based approach focuses on your business’s earning potential and it’s often considered for businesses with stable profits or strong growth potential. There are two common methods within this approach:
Method 1: Discounted Cash Flow (DCF)
The DCF method projects your business’s future cash flows and discounts them to today’s value using a rate that accounts for risk. As an example, imagine your business is expected to make $100,000 in profit each year for the next five years.
Using a discount rate of 10%, the future cash flows are worth slightly less each year when discounted back to today’s dollars. After adding them all up, the DCF value might show that your business is worth $380,000 now.
Method 2: Capitalization of Earnings
The capitalization of earnings method assumes your business will continue generating consistent profits and calculates its value by dividing normalized earnings by a capitalization rate (the expected rate of return).
For example, if your annual profit is $100,000 and investors expect a 10% return, your business could be valued at $1 million ($100,000 ÷ 0.10). This approach requires detailed financial data and works best when your business has a steady track record or clear growth potential.
3. Asset-Based Approach
The asset-based approach is all about your business’s tangible and intangible assets, minus liabilities. It’s particularly useful if your business relies heavily on physical assets, like manufacturing or retail, or in situations like liquidation.
Within this approach, the book value method uses the values listed on your balance sheet, while the adjusted net asset value method adjusts for market conditions to provide a more accurate picture. If you’re winding down your business, the liquidation value estimates what you could earn by selling off all assets and paying off debts.
This method is straightforward but doesn’t account for future earning potential or intangible factors like customer loyalty or brand reputation, which are often significant for small businesses.
4. Rule of Thumb Valuation
Sometimes, industry rules of thumb provide a quick way to estimate your business’s worth. These formulas are based on industry norms, like a percentage of annual sales or a multiple of cash flow.
While this is convenient, it should be used cautiously. It’s a rough estimate and doesn’t consider factors like location, unique business attributes, or future potential. It’s best used as a starting point, not the final word.
Who is Best Qualified to Perform Business Valuations?
The most qualified professionals to perform a business valuation are CPAs with recognized credentials in business valuation services, such as Accredited Senior Appraiser (ASA), Certified Business Appraiser (CBA), Certified Valuation Analyst (CVA), or Accredited in Business Valuation (ABV).
These experts are trained to apply the appropriate valuation methods, analyze complex financial data, and provide a reliable assessment tailored to your business.
Business Valuation Services in Spokane, WA
Griffiths, Dreher & Evans, PS, CPAs specializes in ‘Main Street’ businesses, supporting small businesses through business valuations, business sales, tax preparation services, and investment advisory services.
We’ve been named one of the Top 150 CPA firms U.S. by Accounting Today for the past five years. All business valuations conducted by our CPAs are Certified in Business Valuation by the NAVA or AICPA. Our Valuations also meet SBA, IRS and USPAP requirements whenever needed.
With us, you get expert guidance and personalized business appraisal and valuation service to get the true value of your company. Schedule a no-cost, no-obligation discovery call today.
Frequently Asked Questions
How much does a business valuation cost?
The cost varies based on the size and type of business and the depth of the valuation. Basic valuations might range from $2,000 to $5,000, while more detailed appraisals can cost $10,000 or more. It’s best to request a quote tailored to your situation.
What financial documents do I need for a business valuation?
Typically, you’ll need:
- Recent financial statements (profit and loss, balance sheet)
- Tax returns (3-5 years)
- Business forecasts or budgets
- Asset inventories
- Information on intangible assets (e.g., intellectual property)
Can I negotiate the value of my business with buyers?
Yes, the valuation provides a starting point for negotiations. Buyers may have their own assessments and our team will help you justify your valuation with credible data.