{"id":3161,"date":"2022-04-18T15:42:44","date_gmt":"2022-04-18T20:42:44","guid":{"rendered":"https:\/\/www.northone.com\/blog\/?p=3161"},"modified":"2023-01-03T04:53:42","modified_gmt":"2023-01-03T09:53:42","slug":"how-to-value-a-business","status":"publish","type":"post","link":"https:\/\/www.northone.com\/blog\/small-business\/how-to-value-a-business","title":{"rendered":"How to Value Your Business in 6 Different Ways"},"content":{"rendered":"\n

No matter what leg of the business journey you\u2019re currently on, it\u2019s important to know how to value a business. There are lots of reasons you\u2019ll want to understand how to do this: for purposes of buying or selling, attracting investors, buying out other owners, applying for a loan, tax purposes, or simply to better understand your business\u2019s growth. (1<\/a>)<\/p>\n\n\n\n

In this article we\u2019ll take a look at the different approaches you can take to value your business, explain in detail how each one works, and share which types of business  benefit from each method. <\/p>\n\n\n\n

<\/span>Key Processes in Valuing Your Small Business<\/span><\/h2>\n\n\n\n

There are a handful of ways to value a business. Each will have its own benefits and risks, and some of these may depend on specific circumstances. We\u2019ll take a look at each type and you can decide which of these methods will work best for your company. <\/p>\n\n\n\n

<\/span>Assets Based Method<\/span><\/h2>\n\n\n\n

A fairly common way to go about small business valuation is to do it on an assets-based approach. This means summing up the company\u2019s total assets\u2013property, inventory, equipment, plus intangibles like brand, copyrights, and customer base, and its liabilities\u2013payables and expenses. Then find the difference between these two numbers. <\/p>\n\n\n\n

If your books are pretty well in order, this method is pretty simple, and should reflect the numbers already on your balance sheets. Simply add all of your assets, and subtract your liabilities. To get the most accurate picture, take some time to adjust equipment, property, or inventory to current fair market value. <\/p>\n\n\n\n

This is a good method for internal use, for budgeting purposes (2<\/a>), but it is also widely used for companies that are liquidating, aren\u2019t profitable, or are mainly for holding real estate or investments.<\/p>\n\n\n\n

<\/span>Ratio-Based Method <\/span><\/h2>\n\n\n\n

A price-earnings (or P\/E) ratio is the value of a company divided by it\u2019s after-tax profits. <\/p>\n\n\n\n

The equation for this is:<\/p>\n\n\n\n

Value = Earnings after Tax x P\/E ratio.  <\/p>\n\n\n\n

If using a P\/E ratio, you\u2019ll have to find the right one to use…one that is acceptable to a buyer, seller, or investor. There are several to choose from, and an accountant or business broker can let you know whether there is an industry average or standard you can use. You can also consult an industry association, financial publication, or Chamber of Commerce for guidelines. <\/p>\n\n\n\n

<\/span>Seller\u2019s Discretionary Earnings (SDE) Method<\/span><\/h2>\n\n\n\n

The SDE method is one that is used solely for small business<\/em>, and is helpful for those who are looking for how to value a business for sale. This is because SDE will help determine what yearly income may be expected from the company in question. <\/p>\n\n\n\n

Begin by calculating the business\u2019s earnings before interest and taxes (EBIT). Next, add back the owner\u2019s compensation, and employee benefits (i.e. health insurance, life insurance, 401k, disability, professional development, etc.). Finally, include non-recurring and non-essential expenses such as consulting fees or travel. <\/p>\n\n\n\n

If you are the seller in this scenario, be ready for some pushback from the buyer. There will likely be some debate over certain numbers, and an agreement must be reached before the sale can close. <\/p>\n\n\n\n

<\/span>Market Comparison<\/span><\/h2>\n\n\n\n

This method of valuing a company determines value from examining other comparable companies within the industry. All kinds of businesses use this approach, although it can be extra helpful for businesses that are growing fast or are a part of a rapidly growing industry. <\/p>\n\n\n\n

It requires a good deal of detailed data collection so that the comparison is accurate. However, if possible, market comparison is a great way to find a reasonable buying or selling price that is inline with the local market. <\/p>\n\n\n\n

<\/span>Discounted Cash Flow Method<\/span><\/h2>\n\n\n\n

Discounted cash flow method is a good choice for newer businesses that aren\u2019t profitable yet, but have a high-growth potential. This is a forecasting approach that adjusts the company\u2019s cash flow to reflect the risk of purchase. <\/p>\n\n\n\n

<\/span>Organize Your Finances<\/span><\/h2>\n\n\n\n

Before attempting any of the methods for valuing a company, you\u2019ll need to get your financial house in order<\/a>. If you haven\u2019t already, take stock of all your assets. These include the following:<\/p>\n\n\n\n