Even if you have no immediate plans to buy or sell a small business, it is important to determine the market value for future endeavors. Business valuation methods are used to estimate the economic value of a certain company. Estimating the value of a business is a complicated process for both the buyer and the seller—there is no “right” way to assign value. Remember: the business is worth what someone else is willing to pay for it at the time it is for sale.
Company appraisal methods can depend on multiple factors, like complex formulas, the nature of the business, how large or small it is, as well as emotional investment (for both the buyer and the seller) and other subjective information. But its basis should be founded on concrete data, such as proven profitability or future earnings projections. There are two main factors in determining worth: cash flow and risk.
Small Business Valuation Methods
Since Kevin Baker Consulting does Business in both Australia and the USA, let’s begin in with a definition of small business in Australia. The Australian Taxation Office defines a small business as one that has annual revenue turnover (excluding GST) of less than $2 million. Fair Work Australia defines a small business as one that has less than 15 employees. Despite these differences, many regulators have informally adopted the definition of ‘small business’ used by the Australian Bureau of Statistics (ABS), which is a business that employs fewer than 20 people. While we are defining business size in Australia, a business of 20-200 employees is a medium size business, and over 200 employees a large business. Click here for more on definitions.
AMERICA
A small business is loosely defined as a firm with less than 100 employees that generates less than $750,000 average annual revenue, and is dependent on which industry code a company falls in. But in the valuation process, net worth is determined much the same way as any other business.
As a first step working with you, it may be helpful for you to have us assist you through the process of informal and formal valuation. Take your time, evaluate all options and possibilities before buying or selling a small business–either way, it’s a big decision! Use one, or several, of the techniques below to determine an asking price, and then choose the one–or a combo–that best represents your final estimate.
Valuing a small business based on revenue
A revenue-based assessment may be the most apparent way to evaluate a small business. If a business generates a certain amount of money per annum, it is safe to say that number is the company’s revenue stream. However, businesses are frequently valued at a multiple of their revenue, which is contingent on the industry.
Valuing a small business based on assets
Also known as the “cost approach,” this method calculates a small business’ value based on the company’s assets. This includes what the business owns (like machinery or equipment), what the inventory is, and any other collateral the company might hold a stake in. As a baseline estimate, the business is worth at least as much as these components.
Valuing a small business based on assets and earnings
Another comprehensive way to assign value to a business is by estimating company assets along with company earnings. Earnings can be predicted a few years into the future and then assessed against competition, supplier price points and possible industry changes.
Using calculators to determine the value of a business
There are some tools that can be used in the estimation process, such as business software or free valuation calculators. But these tools should be used only for a general assessment, as there are many factors that can potentially impact the sale that only an experienced broker will be able to identify.
Whether you are buying or selling a small business, or in need of a professional business appraiser, Kevin Baker Consulting is here to help. Our industry experts can lead you through the valuation process, provide tips to improve business worth and help close a competitive deal. Do yourself a favor and consult with us before purchasing or selling a small business.