Whether you are preparing to sell your business or would just like to estimate its current value, it is important to understand how this can be calculated – especially as there are a number of ways you can reach an answer.
Of the various methods available, there is no singular “right” way, but there are definitely an infinite number of wrong ways to determine the value of your business – and the value will largely be a factor of the industry in which you operate.
And while an accountant or another valuation professional can walk you through your options in detail, you can also utilize one of the methods detailed below in order to calculate a valuation for your company.
Using the asset-based approach, you will simply add up the value of all your assets including buildings, investory, equipment, cash on hand, customer lists, etc. and then subtract any liabilities or debts. You would use this information to then update your company’s balance sheet accordingly and would be left with a singular value.
However, this method does not take into account other elements that could make the company more valuable, such as expected revenue and earnings. As a result, this is rarely the best approach for determining the value of a business – though it is one of the simplest and could therefore provide a rough estimate to use as a baseline. After all, if you don’t have a good set of books, your company probably isn’t worth much.
Using this method involves calculating how much your business generates in revenue annually through sales. Once you have this number, you could approach a stockbroker or a business broker who would be able to share more information regarding how much a typical business in your industry might be worth at that level of annual revenue. Again, this is not the most accurate method of determining your company’s value but would give you a relevant reference point.
A more accurate representation of your company’s value would be to use a multiple of the business’ earnings, also known as a price-to-earnings (P/E) ratio. With this method, you would calculate the estimated earnings of your company over the next few years and multiply it by the P/E ratio.
The ratio could be specific to your company or you could utilize an industry standard relevant to your business. For example, the industry average P/E ratio for HVAC companies is around 40. So if an HVAC company has projected earnings of $200,000 per year, the business would be worth $8 million.
Discounted Cash-Flow Analysis
A discounted cash-flow (DCF) analysis is most likely the best and most accurate method of valuation. This complex formula projects your company’s annual cash flow into the future and then discounts the value of that future cash flow to today using what is known as a “net present value” calculation. Essentially, the idea is based on the concept that a dollar today is worth more than a dollar tomorrow.
When it comes to determining the value of your company, it is tempting to simply look at the numbers. While that is a critical element in your calculation, you should look beyond financial formulas and consider more complex models. For instance, the geographical location and competitive landscape could impact your value. If your company is the only local transportation provider for groceries along a remote piece of coastline, your business could be a valuable purchase for a larger supplier that needs access to that area. So consider your strategic value to would-be buyers when determining your company’s value.
If you are trying to value your business in an effort to sell it, you will want to speak to a professional who can help you determine the most accurate number. This is a service we offer at The Hatteras Group as we have been in the business of mergers and acquisitions for decades, and in our experience, we have overseen millions of dollars exchanged.
We have an experienced team comprised of former business owners who have sold their own companies and now help others do the same – all while getting the best deal possible. Not only can we help you determine the value of your business, but our team can audit the health of your company with an advanced 10-point evaluation to determine if there are any issues that could potentially derail a sale in the future. Contact us today for more information.