What is a business valuation?

Understanding how much a business is worth is crucial for business sellers and buyers or anyone running a business. The profitability of a business measured against its risk is a good starting point for a business valuation.

March 2022.5min read time
Understanding how much a business is worth is crucial for sellers and buyers or anyone running a business.
The profitability of a business measured against its risk is a good starting point for a business valuation. However, elements such as intangible assets and the businesses industry must also be considered, despite being difficult to measure.
This guide will cover:
  • How you can calculate the value of a business
  • The various methods used to value a business 
  • The uses of a business valuation  
  • What influences a business valuation
  • Who can help you value your business

What is a business valuation?

A business valuation is a method used to determine the current value by assessing the different aspects and using these to come up with an economic value. A business valuation will typically consider the market value of assets, business trademarks, future earnings potential and many other factors.

How do you calculate the value of a business?

Valuing your own business is a straightforward process, requiring a list of your business's assets and liabilities.
You can then calculate your business value by deducting liabilities from your assets.
However, we recommend getting in touch with an expert to ensure that you list your business for the best price.
Rightbiz works with expert business transfer agents nationwide to value businesses for sale. For more information,  please follow the link below:
https://www.rightbiz.co.uk/valuation/

When can you use a business valuation?

The obvious answer is that it can be used to find a suitable asking price when selling your business. However, there are a few more uses of a business valuation.

 

For instance:

  • Seeking investment: investors will want to see figures before judging whether to invest in your business.
  • Shares: setting a fair price on shares that your employees can buy and sell.
  • Expanding your business: A business valuation can help secure funding or a loan.
  • Filing your taxes: business value is required in the company tax return.
  • Reflecting on performance: It can help identify your business's strengths and weaknesses.

What affects a business valuation?

Most parts of a business can be given a value relatively quickly. However, businesses come with intangible assets, which take some more thinking to get a solid value.

 

Alongside the stock and assets of the business, here are a few things to look at: 

  • A companies reputation
  • The businesses trademarks
  • Age of the business
  • Strength of relationships with suppliers
  • Value of the businesses customers

These factors are some examples of intangible assets, which can make it challenging to find a final value of a business. Luckily, there are techniques you can use to make it easier.

What are the different business valuation techniques?

There are several valuation techniques you may use to get a business valuation:

 

  1. Price to earnings ratio
  2. Entry cost
  3. Valuing assets of a business
  4. Discounted cash flow

1. Price to earnings ratio

The P/E ratio method considers your business's size, sector, and performance. It is used amongst businesses that have a documented record of profits.

The majority of businesses have a P/E ratio between 4 and 10. Companies with higher forecasted profits and a record of repeated earnings usually have a higher P/E ratio.

The formula is simple:

Valuation = post-tax profit x P/E ratio

2. Entry cost

This method is relatively simple- think about how much it would cost to set up a business similar to the one being valued.

You will need to consider what startup costs and assets got the business to what it is today. In addition, how much would it cost to train new staff, build a customer base and develop products that the business would sell?

It would also be helpful to think about where you could have saved money when creating the business. If you could use cheaper raw materials or reduce fixed costs, subtract this from the total.

Once everything has been taken into account, you now have an entry cost or a business valuation.

3. Valuing assets of a business

Established businesses with various tangible assets are set on being valued based on assets. 

To conduct an asset valuation, you need to value assets recorded in the company's accounts or Net Book Value(NBV).

It would also be wise to adjust the asset value according to your current economic situation. For example, the property value may have changed, so be sure to refine this into your research and total value.

4. Discounted cash flow

The discounted cash flow method relies heavily on assumptions about a business's future. As a result, this method is often associated with businesses with a stable cash flow, like a niche restaurant.

Discounted cash flow uses future cash flow predictions for the next, say 15 years, and attempts to calculate what they would be worth today- this then gives the valuation.

How do you value a company based on turnover?

The turnover of a business is calculated by looking at the total amount of money your business receives selling a specific good or service over a certain period. This should not be confused with profit, which considers the company's costs.
Business turnover can indicate how well a business is doing, but you need to compare this to net profit to get a clearer picture.

Is turnover a good valuation indicator?

The extent to which turnover is helpful as a valuation method comes down to your industry and, of course, your company specifically. 
Turnover is an excellent tool to use if you want a quick monetary value for your business. In addition, it can be used to judge how popular your products are and whether sales are doing well. 
However, this method does not consider assets, investments, and running costs, crucial in other valuation methods.

Get a free business valuation with Rightbiz.

Although the methods above can be effective for private sellers, contacting a business broker is the route most buyers and sellers take.
Business brokers use their market knowledge and research to determine an asking price for your business accurately. 
Rightbiz works with over 200 business transfer agents nationwide to provide FREE business valuations. For more information, please follow the link below: