Are you interested in selling your business but you don’t know how to determine the price and value for your business? If your answer to the question above is YES, then i advice you read on. Many business owners end up selling their businesses for less than the actual cost because they didn’t evaluate their businesses correctly before agreeing to the deal.
In fact, valuing a business is one of the toughest part in the process of selling a business. This is why the professional help of a business valuation expert is needed.
Pricing and Valuing a Business Based on Revenue
To some of them, revenue is the best way to estimate a business’s worth. And based on this mindset, they sold their business for a multiple of their annual revenue (the multiple depends on the industry). Revenue is the crudest approximation of a business’s worth. If a business generates $50,000 in monthly sales, that’s a revenue of $50,000.
However, revenue doesn’t mean profit; profit is what you get when you deduct production, operational, and other costs from the revenue. A company generating $50,000 in revenue remains a loser if total expenses exceed that revenue. So, revenue is a bad factor for estimating the worth of a business.
To business owners, finding the value of a business entails no more than picking a pencil and paper, and doing some math with the profit, revenue, average order value, debtor days, sales pipeline value, work in progress, and other business parameters. But determining the price and value of your business is a much more subjective task that goes beyond merely adding and subtracting figures.
While I am not dismissing the fact that your arrival at a final value will be based on some math, some other practical analyses need to be done. For example, one of the best ways to value your business is to put it on the open market and see how much interested buyers are willing to pay, since experts opine that “A business is worth precisely what someone is willing (and able) to pay for it – and what you would be prepared to sell it for.”
Although allowing interested buyers to dictate your price might leave you badly burned in the end, having an idea of how much the average buyer is willing to pay can give you some insight into how much to sell your business (since buyers are usually well informed about the business and market). And the average offer you receive can be the base point for your additional calculations.
After having an idea of how much the average buyer wants to pay, it’s time to do some more work from your end. You want to see if your business is actually worth more or less than the average offer. Now there are multiple approaches to estimating the value of your business.
Selling a Business: How to Determine Price and Value
Approach 1: Evaluate your assets
One approach to estimating the value of your business is to look at the business’s assets. What equipment or inventory does the business own? What is the total worth of the equipment? After all, the buyer will have to buy all the same stuff if they were to start the same business from scratch, so the business is worth at least the total cost of the assets—human and material.
However, one downside of this approach is that it doesn’t consider profit. It’s one thing for a business to be well-equipped, and it’s another for it to generate enough profit to motivate buyers to write the check. This is not to mean that the approach is useless; it can be useful provided you have enough proof that your business generates decent monthly or annual profits.
Approach 2: Evaluate profits
This approach considers a business as a stream of cash. So, you will figure out how much your business is worth by evaluating that stream of cash. If your company makes a profit of $50,000 per month, multiples of this figure can be regarded as the true worth of your business, since that cash can be used to further grow the business or as dividends to you, the owner.
So, estimate the profit for the next few years and ask how much that income stream is worth to you. However, you should be realistic with your expectations. Don’t just assume your profit will be stable. Unforeseen challenges such as competition, supplier price changes, and a declining industry can reduce your profits over time. Make sure to reflect that in your projections.
The truth is, there’s no “best” way to evaluate the price and value of your business. However, any of the two approaches discussed should give you a fair figure. But you should consider the pros and cons of each approach to know which is better for you and your Business model.
One final recommendation here is this: involve a business valuation expert in the whole process. That way, you will get a more accurate valuation of your business.