How to Value a Business and Why You Should Consider It
If you’re planning on selling a business in the UK, you’ll need to work out how to put a value on it before naming your price to potential buyers. Here, we’ve put together a guide that tells you how to value a business and what you should watch out for when deciding what your company’s worth.
Table of Contents
- Why You Should value a Business
- How to Value a Business
- Securing a Good Valuation
Why You Should Consider Valuing Your Business
You may only be considering the potential value of your business to put it up for sale in the future, but there are a few other reasons you might want to know the exact figure on your company’s price tag:
- It can help with settling on a price for issuing new shares, if you’re looking at investing
- It can help to trade shares in a business at a reasonable price, if you’d like to develop an internal market
- It can help to focus the attention and efforts of any underperforming members of your management team, or reward those going above and beyond
- It can provide a realistic estimate for investors, if you’re looking to secure additional funding
- It can give you a clear overview of your company’s financial health, helping you to pinpoint areas where your firm isn’t performing well and let you focus on the approaches that are working
Having this information at hand can give you a great overview of your company’s chances at prolonged sustainability, so whether you’re looking at figures you can quote to potential buyers when you do put your business up for sale, or setting up prices for shares, it’s always something you should consider.
How Do You Value a Business? What Affects the Value?
There are a number of factors that will have an impact on the value of your business in the UK, including elements such as the situation leading to the valuation (i.e. whether you are going to sell it voluntarily or not), the age of your business, and the current and future probability of your business assets.
Below, we’ve detailed some of the factors that you should take into consideration whenever you’re looking to value a small business:
- People, as providing evidence of a strong management team with excellent leadership skills and experienced staff who are loyal to your firm can cause your company’s value to rise
- Your financial record, as this should always add up. Having detailed records of how you’ve managed business costs, a detailed explanation of past, present, and future cash flow and profit projections, and a section on the level of debt you’re currently facing will all have an impact on the value of your business
- The market you operate in, as the condition of the economy, interest rate levels, and the levels of demand for your services will all have an effect on the value of your firm
- Intangible assets, such as your brand name and reputation, growth potential, trademarks, intellectual property, and the strength and profitability of your company’s relationship with customers and clients
- Tangible assets, such as your company premises, equipment (including computers and tools), stock, and the number of clients or customers you have
How to Value a Company
There’s no one set way to value a company. Instead, there are several multi-step valuation techniques and methods you can choose from to get an understanding of how much your business is worth.
If your business has sizable assets, then getting a valuation of these could quickly help you to understand the overall value of your business. Assets can be split into two groups: tangible (physical things belonging to your business, such as properties, stock, and equipment) and intangible (non-physical assets, such as your brand, company reputation, and intellectual property).
To get the Net Book Value (NBV) of your business, you should subtract the cost of your business liabilities (anything like debt or outstanding credit) from the cost of both the tangible and intangible assets. To keep your asset valuations as accurate as possible, you should be consistent with your updates to your assets. This ensures their value always takes inflation, depreciation, and appreciation into account.
We should note that this method often yields the lowest value for a business, as it doesn’t take into account any “goodwill” towards the business. This means the difference between a company’s market value and the value of its net assets (assets minus liabilities) is not covered.
Entry Cost or Valuation
This method helps you to work out the value of your business by determining what it would cost to establish a similar business. To get an accurate estimate, you may choose to create a list that details:
- Startup costs
- The price of tangible assets
- The cost of employing and training members of staff
- Establishing a customer base
- How much it will cost to develop products and services
When you’ve put this list together, you can then consider how to save as much money as possible when starting this hypothetical business. For example, you may choose to switch out your equipment for something more cost-effective, or rent an office space so the services are already installed and you won’t have to worry about the cost of maintenance.
After you’ve worked out what you can save, these should be subtracted from your startup costs. What’s left will be the value of your business based on entry valuation.
Industry Best Practice
Not every industry follows the same formula for valuing businesses. Some may have specific rules of thumb for you to use when you’re looking to carry out a valuation on your own company. For example, retail outfits will normally be valued as a multiple of turnover, volume of customers, or number of outlets. On the other hand, a business such as an estate agent will almost exclusively be valued by the number of outlets it has.
Discounted Cash Flow
One of the more complicated methods of valuing your business is the discounted cash flow method. This is an income-based method, focusing on working out what a future cash flow would be worth in the present day. It’s also normally used by more established businesses, as these firms are more likely to be able to project stable and predictable future cash flows.
To work out the current value of future cash flow, you’ll need to apply a discount interest rate (usually between 15% and 25%) to cover any potential risk (like unexpected costs) and the time value of money. This is the idea that money earned today is worth more than money gained tomorrow, due to earning potential.
If you’re looking to reach an estimated business valuation through this method, you’ll need to add the projected takings forecast for about the next 15 years, plus a residual value at the end of the period. If the estimated business valuation you receive is higher than the investment you’ve got today, it’s likely that you’ve made a good investment and the business is worth keeping.
This method of valuation involves assessing the value of your business in relation to similar businesses that have just been sold, or are for sale. Alternatively, if their business valuation is in the public domain, you can also take the information from this to quickly receive an estimate on the value of your own company.
The Multiple of Profits
The multiple of profits (sometimes called the price/earnings ratio) is most often used by businesses with a solid track record in terms of profits. To use the technique, you will need to:
- Adjust your monthly or annual profits to exclude extraordinary events. These may be things such as one-off purchases or costs, so you end up with a good idea of your future profits
- Add in the further costs or gains the company makes after it has been sold or invested in, to produce a final profit figure. This is called normalised profit
- Multiply the normalised profit by three to five (as these numbers are the standard industry practice)
The figure that comes from this calculation is the price-earnings ratio. The ratio you get in return may vary, depending on the type of business you run. For instance, small businesses and some office spaces may only receive a one times earnings figure as a result, while larger corporations may receive a figure 25 times higher.
Securing a Good Business Valuation
If you’re looking to sell a small business, or even a large business, you’re going to want to get the best valuation and you’ll want it done quickly. There are a few steps you can take to ensure the process is carried out as smoothly and swiftly as possible:
- Make sure all your finances (from profits and loss statements to credit reports, tax filings and returns) are in order and ensure you’re keeping up-to-date records
- Minimise risks to your income by increasing your network of clients and customers
- Never overestimate the value of your business, because steeper prices can put potential buyers off if you’re trying to sell your company
- Always have a solid business plan, showing investors and buyers what they could be gaining from your firm
- Seek professional advice from an accountant who specialises in valuation
- Negotiate, and make potential buyers see the worth of your business
Are You Looking for a New Space for Your Business?
If you’re looking to save money for a business based in London, UK, then you might be able to put away the cash you need by changing location. Renting out one of our office spaces will give you the space you need for employees and equipment alike while saving you the trouble of worrying about maintenance costs.
Get in touch with our team today and after some discussion with us, we’ll be able to set you up in a space that suits all your needs, whether you’re planning on downsizing to save yourself money on maintenance, or need a larger location to give your business room to grow and keep all your equipment and employees comfortable.
If your business is for sale and you only need a meeting room to host (and impress) your potential buyers, we can even loan you one of our meeting rooms to close the deal. Speak with us to find the best spot for your business, or to negotiate the fair price you need to see it sold to someone else.