If you own a small or medium-sized business, it’s important that you’re always thinking about the value of your company. And whether you plan to sell this year or simply want to pass the business to a loved one in the future, you should always know your “number.”
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Most business owners never bother to get a valuation for their business. They assume that it’s only necessary if and when they plan to sell their company. However, there are plenty of other reasons you should know the value of your business. Here are several of them:
Understanding the value of your business can give you a much more accurate understanding of your company’s present status and future opportunities. With that being said, here are some different ways you can determine your company’s value.
The book value – also known as an asset-based approach – takes your assets minus your liabilities and gives you a number. In other words, if you have $1 million in assets and $200,000 in debt, your valuation would be $800,000.
This method does provide a decent snapshot of what the company is worth, but it doesn’t take into account the company’s potential. For example, if the company has an annual net profit of $500,000, the company is obviously worth far more than $800,000. Likewise, if the company is only breaking even each year, a buyer would be hard-pressed to fork over this much money. All of that being said, use an asset-based approach in conjunction with other methods mentioned.
This approach is very much focused on future performance instead of historical data. It basically estimates future cash flow while factoring in various risk factors. It’s generally a pretty good option for business owners/sellers. However, buyers will often complain that the numbers aren’t realistic enough.
With this approach, you take your gross income/earnings and use an industry multiplier to produce a value. In some industries, the multiple is five-times sales. This means a company with $100,000 in gross revenue would be valued at around $500,000. Every industry has a unique multiple and a different way of calculating valuations, but this at least gives you an idea of how it typically works.
If you’re in an industry with lots of competition and a number of transactions that have occurred in recent months, you can always use market comparison to get a feel for how much your company is worth. Simply look for similar companies (based on location, revenue, industry, etc.) that have sold in the last two years and base your valuation on that figure. If nothing else, it’s a good starting point.
No business valuation is perfect. However, the more serious you are about getting a proper valuation, the more informed you’ll be regarding decisions related to growth, investments, retirement, exit strategies, and future mergers or acquisitions. Now’s the time to lean in and get serious about your numbers.
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