How much is your small business worth? If you don’t know the answer to that question, then it’s time to figure it out. A business appraisal might not seem important if you have no immediate plans to sell your company, but the truth is that it may matter to lenders and investors.
Select Funding works with small businesses every day to provide affordable working capital and equipment financing to small businesses. While we base our lending on revenue, we recognize that having an accurate business valuation may help small businesses attract investors and meet their growth goals.
So, if you’re wondering why you need a small business valuation, here’s our breakdown of why it’s necessary, including a checklist to help you along the way.
It’s common for small business owners to delay getting a valuation of their business until what is referred to as a transaction triggering event—something that increases the likelihood of you selling your business, or even requires you to do so. Here are some examples of triggering events:
If there is a triggering event, you need to be prepared and having your business appraised will minimize the time you’ll need to spend getting ready to sell to a potential buyer.
We should note that a triggering event is only one reason that you might need a business valuation. Here are some other reasons:
What we hope you can see from this list is that having a small business valuation makes sense whether you have plans to sell your company or not.
There are several methods you can use to determine the value of your small business.
There are two ways to conduct an asset valuation. The first assumes that the business will continue its operations after a sale and takes the company’s assets and subtracts its liabilities. The second is a liquidation value, and that takes the assets and adds the projected sale price of each business asset together before subtracting the liabilities.
The market approach is best for publicly traded companies. The calculation is extremely simple. All you need to do is take your current share price and multiply it by the total number of shares outstanding.
The ROI-based valuation uses a projected return on investment to calculate the value of a company. This is the type of quick valuation that you may have seen on Shark Tank, where the investors offer money in exchange for a percentage of a company. If they offer $300,000 for a 30% share, they’re assuming the company is worth $1 million.
A discounted cash flow valuation uses your projected cash flow as the basis for valuation. This method is most often used for companies whose cash flow is not consistent and requires careful calculations to adjust cash flow based on current values.
A capitalization of earnings valuation uses the company’s annual ROI, cash flow, and expected value in the appraisal process. This method is most commonly used for stable businesses because the calculations assume that cash flow will be consistent and allow the business to be profitable going forward.
A book value valuation uses a company’s balance sheet to calculate its value. It’s a simple approach that involves taking the value of your equity (your total assets minus your total liabilities) to determine the worth of your business. This method is most effective for companies with low profits and valuable assets.
A multiple of earnings valuation has a lot in common with capitalization of earnings because it uses a company’s potential future earnings to determine its worth. You can complete this type of valuation by taking your current revenue and assigning a multiplier, but it’s important to keep in mind that multipliers can vary greatly depending upon the current economic climate, your industry, and other factors.
A fair market valuation is arguably the most subjective way to appraise a business because it relies upon comparing sales of other similar businesses–typically of the same size and in the same industry–to arrive at a price. To use this method, you’ll need enough market data to make the comparisons trustworthy.
To help you determine the value of your small business, we’ve created this checklist. To make it easy, we’ve broken the list down into four sections.
The first category is financial documentation. We should note that if your business is still relatively new, you might not have as many years of documentation as we suggest. If that’s the case, gather what you have available.
Our next category is documentation about your company, including all details that may impact the business value.
Your industry and competitors play a key role in appraising the value of your company.
Finally, you’ll need to do some basic analysis before you determine the value of your business.
Nobody knows your company better than you do. Here are some guidelines to help you choose the most appropriate business valuation method for your business:
You may even want to try using several methods and comparing the results. There’s often some subjective element to valuation, particularly when using the market value method.
Whether you have immediate plans to sell your company or not, you should still have an accurate valuation of your company. While valuation is something you can do yourself, your calculations may reveal areas where you need working capital to increase your company’s value.
If you’re in need of an injection of working capital for your small business, Select Funding is here to help! Click here to read about our small business financing options and apply today.