It's a good idea to know the value
of your business, even if you don't have immediate plans to sell. Here are
three ways you can calculate the value of your small business.
Even if you don’t have plans to sell
your business, you need to know its value. What will you tell the banker who is
considering your loan request or the investor who has money in her pocket
earmarked for you? Knowing what your business is worth is just as important as
knowing the value of your home.
However, deriving the value of your
business is open to interpretation. In short, the business is worth what
somebody will pay for it. Valuing it involves numerous metrics. Some will have
more or less weight depending on the nature of your business.
For an accurate value for use in
official business discussions, hire an appraiser, but for a general idea of
value, here’s what you need to know.
Which Method?
According to SCORE, there are three ways to assign value.
1) Asset Based Approach - How much would it cost to replace all of your assets with
equipment in like-kind condition? For businesses without earnings that surpass
the value of its assets, this is the simplest way to assign value.
2) Market Approach - If you own a home, you find its value by comparing it to
similar houses in your neighborhood. By looking at other businesses in the
marketplace with similar assets—both tangible and intangible, you can determine
value in the same way. This approach can work against you if your business
doesn’t operate like other comparable companies.
3) Income Approach – Finally, you can assign value by looking at your
business's pretax and after-tax earnings or using another income metric such as
gross sales. To that, add the value of your tangible assets and assign a
multiple to account for future growth.
How to do the Math
The asset and market approach are
straight-forward but using the income approach is a little more involved.
Here’s how to do it. If you’re unclear on the terms, click on the links for
more detail.
Step 1 - Determine future earnings- You could look at the past several years or if your
business has changed drastically in the past year, use discretionary
earnings from last year. Looking at past earnings gives you the best
guess as to future earnings assuming nothing material changes.
Step 2 - Pick your multiple- If your company is growing,
potential buyers or investors will pay more than $1 per $1 of your earnings.
For small businesses, the range is often between 0 and 3. If you have
discretionary earnings of $100,000 and you believe that you deserve a multiple
of 1.5, your intangible assets have an estimated value of $150,000.
Step 3 - Add your net liquid assets- What would your business
have left after paying off all debt? This would include all cash, stock, bonds,
real estate, and equipment. Add the total value of your net liquid assets to
the figure you calculated in step 2. If you have net liquid assets of $75,000,
the total value of your business is $225,000.
If Only it Were That Simple
You may have noticed that much of
what constitutes valuation is based on what you “think.” You may think last
year’s banner earnings were a sign of things to come. An investor might want to
look at the average over 3 to 5 years. You might think that you deserve a
multiple of 2, but an appraiser might only see a 1.5.
If you are placing value on your own
business, think conservatively. Just as you have personal assets with sentimental
value, you’ll be tempted to add some “sweat equity” into the valuation.
If you ever negotiate with an
investor or buyer, know that you’ll likely have to negotiate. They probably
won’t pay 100 percent of its value and the value might be lower than you believe.
Sound a little complicated? If you
need to value your business for official purposes, hire an appraiser to help
but if you only want to better track the change in valuation going forward, do
the math yourself or use an online
calculator.
By Tim Parker.
"If you can live up You can get up"
Africa's finest!
Brian Pade
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