If there was a perfect formula for selling a business, life would be so much easier. Although no one’s come up with one yet, there are some guidelines and rules of thumb that you can follow.
There are plenty of valuation formulas that exist. Each one is suitable for different types of business and depend on a range of factors. In this article, we’ll look at:
- Different business valuation methods
- The information you need for each formula
- Which one will be best suited to the sale of your small business
Giving you all the details you need to put the right price on your business when you come to sell.
Why are there different formulas for selling a business?
Many elements go into deciding how much a business is worth. Since there are so many different sectors, ownership models, and reasons for selling, there are different ways to measure how much it’s worth.
The final arbiter of the value of your business is what someone is willing to pay for it. As the owner of the business you can compile all of the information a potential buyer would want to make the sales process much easier on all sides.
When the business:
- Can operate independently of the owner
- Has potential to expand into new products
- Has untapped sales channels
- Is scalable
You will realise a healthy profit from the sale, no matter the business valuation method you use.
When should I use the price earnings method?
The price earnings formula for selling a business is a pretty simple calculation to make. Using the data from your balance sheet, you look at what your earnings or profit has been and use a multiplier to get the value.
But what multiplier to use? It all depends on the type of business you have and the industry you’re in. Online retailers with diverse products will have a higher multiplier than a local café. To get the right multiplier for your business, contact us to discuss your options.
In 2019 the average sales multiplier across all industries was 2.8. Using that number, if your business made a profit of £100,000, you’d be able to sell your business for £280,000. This type of calculation is best suited for businesses with a strong history of profitability.
How do I do a discounted cash flow analysis valuation?
This formula for selling a business is a little more complicated so you may want to bring in a professional to help. The process entails looking at the cashflow in the business and making projections of future earnings and accounting for inflation and depreciation.
Lots of assumptions get plugged into the formula; it’s not as clear cut as the P/E model. It’s best used for a business that has recently pumped in a lot of investment and the cash hasn’t yet started flowing.
Can I do a simple asset valuation to value my business?
The assets and liabilities formula takes into account everything that your business owns and owes. A lot of the data will be held in your balance sheet, but you need to remember to look at your intangible assets too.
Tangible assets are the things that your business owns and have reasonably clear market values. Your intangible assets, on the other hand are more subjective in value, such as:
- Intellectual property
- Customer goodwill
- Copyright ownership
Calculate the value of all of your assets, minus your liabilities such as loans and short leases, and you have a value to propose.
Using this formula for selling your business would be suitable when you have an asset rich company such as a farm or a property developer. It can also be useful when you need to exit your business quickly.
What’s the entry cost method?
To value a business using the entry cost method, you need to understand all the costs of entering the market fresh. It takes into account the cost of a whole range of variables, including:
- Staff training
- Acquiring assets
- Developing a client base
- Bringing products to market
Use this business valuation method when your business is relatively new on the market and in a competitive industry.
How can I use the market approach to value my business?
The market approach to valuing your business requires a fair amount of research and data collection. This valuation formula requires you to know what other businesses of a similar size and in the same sector have recently sold for. You then project that value on to the business you want to sell.
For small businesses, this can be rather impractical. It’s not always easy to find details on the sale of a competitor in your area. As a formula for selling a business, it works better for listed companies that have to record the data publicly.
Which formula for selling my business should I choose?
Lots of factors need to be taken into account when choosing the right valuation formula for your business. The industry that you’re in, as well as the size and age of your business will all play a part in which one of these formulas you’d choose.
The onus isn’t all on you as the business owner. At Melville Bierman we will work with you to understand the best valuation method for business and then start finding potential buyers with our tried and trusted technology and personal networks.