Best Way To Value A Small Business

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Best Way To Value A Small Business – Knowing how much your business is worth isn’t just for big companies—small business owners can benefit from this knowledge, too. Valuing your business can help you create more accurate and effective goals and is essential if you are looking to sell your business.

In this article, learn how to value a business, when to value your business, and how to improve your valuation.

Best Way To Value A Small Business

Best Way To Value A Small Business

While you may be happy with the results, the value of your business is not a futile measure. Whether you’re planning to sell your business, merge, buy out other owners, apply for a business loan, give stock to employees or go through a major life event, a proper small business valuation can be important. .

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However, there are many ways to determine the value of a small business, and the correct method may depend on the size of the business and the purpose of the valuation. Understanding common methods and why results will vary can be important for small business owners or corporate executives.

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There are many ways to value a small business based on its balance sheet, revenue, future projections and current sales of similar businesses. Each method has its advantages and disadvantages and can be used in different situations. Here is an overview of five common valuation methods:

If your balance sheet is in order, asset-based valuation can be relatively straightforward, as it largely reflects what the balance sheet shows. First, add the value of the business’s assets and subtract its liabilities to get a starting value.

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Then, to get a more realistic assessment, you’ll want to think more about the numbers. The adjusted net worth method requires you to adjust the value of assets and liabilities using your knowledge of the current business and market.

For example, you may have accounts receivable that are assets on your books, but you know you likely won’t receive the full amount. You need to adjust your property to reflect real world values.

The adjusted net worth method can be useful if you are valuing a company that is making a lot of money or not losing money. It is also a common valuation method for holding companies that own part of other companies or invest in real estate. If you’re planning to sell your business, you’ll want to get an appraisal to determine the floor’s value.

Best Way To Value A Small Business

The cash flow capitalization (CCF) method is the simpler of the two main income-based methods you can consider when evaluating income-generating companies.

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To calculate business value using the CCF method, you divide a particular period’s cash flows by the capitalization rate. You want to use the constant and recurring cash flow of the business period, and you may need to adjust if there are current expenses or income events that you don’t want to include in the results.

The capital rate (cap rate) is the expected rate of return of the business. This is the rate of return that a buyer can expect to earn (without his salary) when he buys the business. It is often between 20 and 25 percent for small businesses.

The simplicity of the CCF method may also affect its predictability. However, if you are looking for a mature and stable company that is unlikely to see large fluctuations in its cash flows, the CCF method can be a valuable valuation method.

The discounted cash flow (DCF) method is another income-based method. It uses estimated future cash flows and the time value of money to determine the present value. While CCF is best used for companies with stable cash flows, DCF is best for companies that will experience significant growth or decline in the coming years.

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The time value of money is the assumption that money today is worth more than it will be in the future. For example, if you have a thousand dollars today, you can invest the money, make a profit, and have more than a thousand dollars in five years. A discounted cash flow model takes this into account, so it can be useful if you want to compare different investment opportunities.

Although the calculations can be a bit complicated, you can find an online business valuation calculator that can help. But you still need to figure out which numbers to plug into the calculator.

A business cash flow statement is a good place to start, with projected cash flows if they are generated. Additionally, you need to know the discount rate or weighted average cost of capital (WACC), which requires more complex calculations. Think of the WACC as the rate a business must pay to finance its working capital and long-term debt.

Best Way To Value A Small Business

You also need to decide how many years of cash flow you want to include. You can base your answer on how confident you are about future cash flow projections, and use the same number of years if you want to compare DCF for multiple investments.

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Market-based valuation is less dependent on the specific business than current market conditions. With the market-based valuation method, the current market value of a business is determined by comparing the current sales prices of similar companies.

If you have a small business, finding relevant components can be difficult, but if you’re looking to buy or sell a business, you’ll still want to find at least a few products. If you hire an appraiser, they may have access to a database with relevant findings.

Even if the components are not physically close, an appraiser can find businesses of similar size in the same industry and then adjust by region. You can also use the results in conjunction with other valuation methods to determine business value.

The previous four valuation methods can be used for small businesses as well as large and publicly traded companies. However, the seller’s discretionary income (SDE) method is only used to value small businesses.

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If you are looking to sell or buy a small business, the SDE method may be best because it can help the buyer understand how much they can earn annually. To calculate SDE, you need to determine how much money you need to start the business.

You can calculate business earnings before interest and taxes (EBIT) or, for a more precise approach, before interest, taxes, depreciation and amortization (EBITDA), which you can determine from financial statements. Then, add back the owner’s compensation (since the new owner may choose a different salary) and benefits such as health insurance. Also, add back unnecessary, non-recurring and unrelated business expenses. This may include travel, one-time consulting fees and business use of a personal vehicle.

While SDE is often used when a small business is being sold, it is not uncommon to discuss multiple numbers. These may arise especially in the case of added costs to determine the price.

Best Way To Value A Small Business

For example, a marketer may want to call a search engine optimization project a one-time expense and add a return to revenue to boost ratings. However, the buyer may consider the project as an ongoing project that requires assessment and payment for each year. They must come to an agreement before proceeding with the sale.

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The list could go on because the personal and professional lives of small business owners revolve around the business and its potential. While many of the above reasons include changes in business or ownership, a personal event (such as marriage or divorce) can also trigger an appraisal.

If you are evaluating a business for informal purposes, you may want to do it yourself. However, hiring a professional appraiser (you can find one who is part of the American Society of Appraisers) or a business valuation specialist (banks, lenders and accountants can provide these services) may be a good idea if you need an analysis for more serious situations. . The business valuation process can be complicated for formal purposes, and it is better to have a professional guide you.

Any valuation will be based at least in part on your business finances. A market-based valuation method also requires your business’s financial information to find the right components.

At a minimum, you’ll want the last 3-5 years of your business tax returns and financial statements, including your balance sheets, income statements and cash flow statements. Check the statements to make sure everything is correct and up to date.

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Other financial-related documents, such as sales reports and industry forecasts, may also be important, especially for DCF and market-based valuations.

Depending on the reason for the business assessment, you may want to provide copies of your business licenses, permits, documents and certificates, as well as any ongoing contracts with insurers, creditors, vendors and customers.

If you are planning to sell your business or looking for a business loan

Best Way To Value A Small Business

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