A fundamental question we are often asked is, “How do I know what my business is worth?” It may seem like a simple question, but calculating business worth requires a lot of information and analysis. If you are looking to sell your company, you'll need to first determine its business value. There are three things that a buyer and a banker will look at when appraising the value of your business and assessing its viability. The primary business appraisal methods will consider the business’s gross revenue, EBITDA, and seller’s discretionary earnings.
Factor # 1: Gross Revenue
If you are asking, “What is my business worth?”, then you are looking for trends on gross revenue as your top line; how does your business perform year over year? Also, you are looking at a 3-year snapshot generally, to look for those trends. If you see growing revenue, that’s a good thing. That adds a higher multiple of gross revenue. We will get into the kind of multiple ranges later.
Factor # 2: E.B.I.T.D.A
This acronym stands for Earnings Before Interest Taxes Depreciation Amortization – that’s your net income with some adjustments.
Factor # 3: Seller’s Discretionary Earnings
You’re also looking at the seller’s discretionary earnings, which is E.B.I.T.D.A plus owner compensation.
There are certain rules of thumb when you are valuing a company to determine what your business should actually be sold for. We’re looking at what the value is and your price value. They’re not all created equal.
Generally speaking, the most important factor that a buyer is really going to look at (along with the trends, you obviously want to see positive trends) is profitability—otherwise known as the cash flow or return on investment. If you flip it around, someone who is going to buy your business wants to look at the cash they’re going to take out of it (that’s the earnings) and they will question what is their return on that investment. They’ll look at your business’s cash flow and consider how many years will it take to repay the purchase price. That’s what a return on investment is. Depending on the buyer you’re talking to, they want to see a 3, 4, 5x return on their investment.
You’re going to have some buyers who are going to pay 3 and 5x E.B.I.T.D.A. for a professional service company. Here’s an example:
Let’s say that your business has a gross revenue of $1,000,000 USD and you are taking home $500,000 dollars in profit, your E.B.I.T.D.A. without making adjustments is $500,000. A buyer would look at that and say, “Okay, I can make $500,000, all things being considered,” and they’re willing to multiply that number by 3, 4, 5x depending on your type of business. That’s the general rule of thumb and again, there are checks and balances. You look at gross revenue against some other things, but that’s just one example that I like to give, as it’s a nice round number you can gauge against, and ask what your business is and how much money you are taking out of it.
What is My Business Worth? Another example:
You own a physical therapy practice, and your gross revenue (your billable) is $1,000,000 USD each year, and your profit (net income) is $500,000 a year. Currently, as the market is today, a buyer would look at that and think, “I’m willing to pay $500,000 x 3 = $1.5 million up to x4= $2 million.” So this means somewhere, between $1.5 and 2 million for your practice. That’s what we call a multiple.
LET PRIVATE PRACTICE TRANSITIONS HELP DETERMINE YOUR BUSINESS’S VALUE
Keep in mind that every industry is different: A widget factory sells differently than an ice cream shop which sells differently than a physical therapy shop, which is different than a CPA practice. Whatever type of business you have, we hope we’ve helped you answer the question, “How do I know what my business is worth?”
If you’re interested in our professional valuation services, we can help you figure out what your multiple is for your business and your industry. Give us a call if you’re interested in learning more about our valuation and brokerage services. We do opinions of value and we’re happy to tell you what we think your business is worth.
