The value of a business is based on two things: what it owns and what it earns.
What It Owns
A business has tangible and intangible assets. The tangible assets are
the furniture, fixtures, equipment, inventory, and real estate. The
intangible assets can include the trade name, contracts, leases, client
lists, licenses, recipes, and patents.
What It Earns
A business provides a certain financial benefit to the owner.
The benefit generally comes in the form of business profits and a salary
to the owner. It can also provide the owner with fringe benefits such
as health insurance, a company car, or a retirement plan.
How Value is Calculated
There are different methods used to determine the value of a
business. Some methods are straightforward, others very complex. For
simplicity sake, we list some of the more straightforward methods used:
* Business Value is based on the value of the assets of the business, or
the assets of the business plus one to three times the earnings. If the
earnings are stable and growing, the value is on the higher end. If the
earnings are variable or declining, the value is on the lower end. This
method is more commonly used on owner-operated businesses with sales on
the lower end of the spectrum.
* Businesses with sales of $1 million to $10 million may sell for
straight earnings multiples of three to six. An investigation of the
financial information is required to uncover the true earnings
capability of the business. Again, if the earnings are stable and
growing, a higher multiple is used. If the earnings are variable or
declining, a lower multiple is used.
* Businesses with sales of more than $10 million often have specific
industry criteria, which may be applied to determine the value. At this
level, Buyers may be paying for market share, rights to patents and
processes, additions to product lines, or the benefits of strategic or
Rules of Thumb
Most industries have one of more rules or thumb. However, they can vary
widely and in most cases do not give an accurate value of a business.
Since each business is unique, a particular rule of thumb can be off by
as much as 100% or more. The business valuator will be able to decide
what is the most relevant information about a business and then make an
informed decision about its value.
The Value of a Business Valuator
Business valuation is as much an art as a science. While a business
valuator does employ standardized formulas and methods to calculate
value, it is most effective to work from assumptions that are based on
his experience in the market place and his familiarity with the similar
businesses. This process includes the selection of the most appropriate
risk and return variables. In this way, the applied expertise leads to
the best calculations of value for a specific business.
For more information, or for a free consultation
to determine the value of your business, contact us today.