What You Should Know About Business Valuation Methods

5 min read • Sep 03, 2021 • Barry Eitel

Small businesses, like most assets, can be valued differently based on business valuation methods, market forces, and possible buyers. Off the top of your head, you can probably think of several ways to value your business—by the value of your assets, the amount of profit you turn, or the potential earnings your business could capture in the future. There are many more ways to conduct a business valuation, and they vary in complexity, accuracy, and acceptance amongst buyers.

Even if you aren’t looking to sell your company any time soon, understanding the value of your company is important for any small business owner. Here are some ways to valuate your company.  

What Are the 3 Ways to Value a Company?

There are many ways to valuate a company, but there are 3 common methods utilized in the field of buying and selling companies. These methods include comparable analysis, adjusted net assets, and discounted cash flow (DCF) analysis.

1. Comparable Company Analysis

Comparable company analysis, commonly shorthanded as “comps,” is a business valuation method that evaluates a company based on the value of other companies. Because of this commonsense approach, it is a very common and accepted form of valuating a company. This method is also referred to as “public market multiples, “trading multiples,” “equity comps,” and “peer group analysis.”

Comps often focus on multiples of EBITDA, meaning Earnings Before Interest, Taxes, Depreciation, and Amortization. EBITDA multiples are usually used to determine value for large corporations, while smaller businesses often look at multiples of Seller’s Discretionary Earnings (SDE). SDE is a company’s annual EBITDA plus the annual compensation paid to the business’s owner.

As the name suggests, comparable company analysis calculates a business’s value by comparing it to the value of comparable businesses. Region, industry, and size are common ways businesses are grouped together. Small businesses are commonly compared based on enterprise value to sales (EV/S) and price to sales (P/S).

To valuate your company via comps, you should research the sale price of similar businesses. In most cases, hiring an appraiser can ensure accurate comps analysis.

For many small businesses, valuating your business on comps is similar to methods known as market-based valuation and precedent transaction analysis. All these methods look at the valuations or sale prices of similar businesses for comparison.

2. Adjusted Net Assets

An assets-based valuation of a company will look similar to a balance sheet. For a slapdash “back of the envelope” value of your business, add up all your company’s assets and subtract all liabilities, like your debts. This can give you a starting value for the moment, but it doesn’t take into account the wider market or future earnings.

You can adjust this value with more details, like if there is accounts receivable that you don’t expect to collect in full.

Even if it doesn’t take into account the totality of your venture, an asset-based valuation can at least set a starting price.

3. DCF Analysis

To conduct a discounted cash flow (DCF) analysis, you must complete a complex formula that uses past data to predict future revenues for your business. The formula compares a company’s cash flow to its cost of capital. A buyer looks at a DCF analysis to understand the potential future revenue of a company in comparison with the risk involved with your business.

Because the DCF analysis formula requires an intensive forecasting model, it is the most detailed and information-intensive method available to evaluate a company.

DCF analysis can be very useful for young small businesses: a new company might have a great probability of earning profits in the future even though it runs at a present loss.

How Do You Value a Business Quickly?

The simplest way to find the value of a company is to look at its balance sheet, which is similar to the adjusted net assets valuation method.

“Depending on the business, the balance sheet might show tangible and intangible assets and a variety of long-term liabilities, some of which you might be able to reduce through negotiations and invoking early-termination agreements,” writes Steve Milano in the Houston Chronicle. “If it’s a complex balance sheet, you can simply take the assets you think you can sell quickly and subtract the liabilities to determine the company’s net worth for a fast sale.”

While you’ll want to get an appraiser involved and do more financial modeling before any agreement is reached, a balance sheet can give a pretty basic sense of a company’s value in the moment.

What’s the Rule of Thumb for Valuing a Business?

There are a few so-called rules of thumb for valuing businesses, but you’ll want to use them in conjunction with other business valuation methods to get the most accurate calculation.

One common rule of thumb is to use a multiple of percentage of annual sales. The multiple depends on your business and requires research. Multiply the sales from the past 12 months of business by the multiple to get a quick, sales-based valuation.

Another rule of thumb is to use an SDE multiplier, which varies based on industry and similarly requires research. For this valuation, you multiply your SDE by the multiplier.

How Many Times Earnings Is a Business Worth?

According to business acquisition platform BizBuySell, the average American business sells for 0.6 times its annual revenue.

Of course, this average should only be seen as a baseline—the value of your company is deeply impacted by your specific situation, industry, and location.

You should also consider much more than just physical assets and sales numbers. The value of your business could partially derive from aspects that don’t appear on a balance sheet, like your ideas, customer base, location, and curb appeal.

Barry Eitel

Barry Eitel has written about business and technology for eight years, including working as a staff writer for Intuit's Small Business Center and as the Business Editor for the Piedmont Post, a weekly newspaper covering the city of Piedmont, California.