Valuation of Business Interests
There are almost as many ways to value a business as there are types of businesses out there. While each of the different methods to value a small business has its merits, all of them have their short-comings as well. Some of the approaches used by business brokers to estimate a Most Probable Selling Price include:
• Comparison Method
• Asset Valuation
• ROI (Return on Investment)
• Capitalization of Earnings/Discounted Future Earnings
• Debt Service
In my personal experience, the Sales Multiplier is probably the best indicator for the market price that can be achieved. Yet again, while the Seller’s Earnings can be approximated (through a recasting or normalizing of the P&L), the Sales Multiplier allocated to the Earnings is somewhat subjective and dependent on the judgment of the seller/broker. This is why it is always a good idea to combine a few of the above methods and reconcile values arrived through different approaches.
Also, any business includes all or most of the following:
• Fixtures and equipment
• Goodwill (reasonable expectations for future profit)
• Leasehold improvements
• Customer list
All of the above can have a positive or negative effect on the asking, and subsequently the selling price of a business. In my opinion, however, even more important than a “scientific” valuation is the ability to know what the market place is willing and able to absorb.
This is why in many cases it is extremely important to have a mediator/intermediary who understands the objectives and abilities of both parties and can successfully reconcile the two seemingly diverging points of view.
The above is just an overview of some of the considerations and methods that are used in valuing a small business. More important than an accurate pricing of the business, regardless of how precise, is the ability of the seller to listen to the market place – at the end of the day, market price is only a function of what a willing and capable buyer and seller agree upon. A well done and justified valuation, however, helps a buyer see the true value of the business and feel more comfortable with paying the price for it.