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The Basics of Valuing a Business

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Every business in the world today, from a tiny corner cafe to a multinational corporation, has a set market value. This single value is a broad, estimate of what the business is worth in total expressed as a lump sum of currency.

A steadily increasing market value is usually an indication that your business is doing well. However, every value will go up and down over time. The current estimated value helps to determine what price the business can be bought and sold at.


Calculating the value of your business well can be a tricky task. There are a lot of variables that can raise and lower your market value that you'll need to take into account. As well as this, you'll need to consider some factors linked to the local and global economy that you can't really actively control.

So, how can you get the best possible valuation for your business down on paper?

What you'll need to value your business

It's a good idea to gather up all the paperwork you'll need before you begin. Combine these with any recent books, publications, or articles that are relevant to your industry and where it might be heading.

You'll definitely need:

  • A recent trading history including total earnings, liabilities, costs, and losses.
  • A broad overview of your company from the date it was founded, including lifetime figures for revenue.
  • A full list of your current employees and their wages.
  • Any commercial contracts, leases, permits, licences, registrations, agreements, or other legal criteria that are still active and relevant.
  • Tax records.
  • A decent portfolio of up-to-date market and consumer trend analysis for your specific industry.
  • A folder of recent events, advertising, and PR (including that of competitors) that has affected or could affect your company.

Methodologies you can use

Calculating the market value of any business isn't an exact science. Valuation relies a lot on guesswork. Nevertheless, there are methods that are better suited to determining certain market values in certain ways across time. These are called valuation models.

Here are a few of the most popular:

Asset valuation

This is the simplest way to get a quick, solid figure down for your recent performance. It's the most useful method when trying to determine if your business is turning a profit overall, producing an up-to-date figure for revenue, or for predicting a simple trend line to represent your future earnings.

Asset Valuation is best at predicting the value of small businesses with stable, predictable earnings. If your business trades in a short-lived or volatile marketplace, you may want to use another method.


Simply subtract all gross liabilities (money lost) from all gross assets (money gained) over one to five years. This will indicate your net profits for that period and the current raw worth of the business.

If you're calculating over a longer period of time than one year, you will need to adjust your figures for inflation. Remember to factor in any taxes and loan repayments above the initial total lent as liabilities.

Full asset and outlook valuation

Basic Asset Valuation usually does produce a broadly accurate picture of day-to-day performance. However, it doesn't take into account everything that subtracts and adds profit and value to your business. It's also fairly poor at expressing potential market value, as it doesn't really consider what your business might grow into. It can also fail to anticipate future risks.

Fixed assets that could be sold on or replaced such as leased shops, the general economic outlook, new innovations in your industry, broader technological change, your media profile and advertising, staff productivity and loyalty, competitors moving into the marketplace, equipment and fitted facilities, and increases in demand for your services can all determine future revenue much better than a simple, linear analysis of past earnings.

They can all raise and lower your market value and they should all be factored into any long-term evaluation.

Of course, good events such as increased demand and acquiring a set of award-winning staff are what you want to discover and report. However, be careful. Omitting or ignoring bad news (such as material cost increases or your business model becoming outmoded) could have dire consequences.

It can be very difficult to calculate exactly how much value something adds or subtracts in real terms, particularly with unpredictable, chaotic future events. For this reason, turning to accountants that have experience in business valuation can often be the best option. A good, complex valuation model will also exclude any past outliers such as an exceptionally expensive one-off purchase of new equipment.

Price to earnings ratio

Once you have a realistic picture of your future earnings, you can apply this advanced method to determine how fast your company will grow.

Price to Earnings is a particularly useful valuation method for enormous, publicly-traded companies such as Google. They'll typically see heavy fluctuations in year-to-year (or even month-to-month) revenue and often conduct constantly-rolling investment and expansion. Consequentially, their Asset Valuations are much less accurate when it comes to measuring how well they're doing.


While this may not seem relevant to you, similar formulae can be applied to determine a cost/earnings ratio multiplier for how well individual products or shop floors are doing. Earnings Multiples are used extensively by high street retail outlets to predict sales and profitability.

Ultimately there are several factors that will affect the value of your business. Remember too that beauty is in the eye of the beholder. Value is subjective – in that it’s worth different things to different people.

If you are looking to sell, you need to put the groundwork in to make sure your business is presented in the best possible light.

 

By Jo Thornley, Head of Brand and Partnerships at Dynamis. Jo started out in 2005 co-ordinating PR and communications as well as writing content for all websites. She earned her spurs managing the communications strategy and now creates and develops partnerships between BusinessesForSale.com, FranchiseSales.com and PropertySales.com and likeminded companies.