Knowing exactly what your business is worth is essential to your exit plan. Off the back of this information, you can negotiate a fair price and plan your remuneration package – key steps when exiting any business.
But do you know how much your business is really worth? In this third edition of our exit planning series, Chris Hird discusses the benefits of professional valuations as part of the exit planning process.
It’s easy to assume the value of your business. However, receiving a professional business valuation will ensure you receive a fair price upon your exit.
The way in which your valuation is approached will depend on the specific circumstances and requirements of yourself and your business.
When it comes to valuations, there are three common considerations: earnings, assets and cashflow. Knowing how this works can help you realise the true value of your business.
Valuing a business in 3 steps
1. Earnings basis
An ‘earnings basis’ is used in the valuation method for most trading businesses. Considering the ‘earnings basis’ often encompasses multiple methods to determine a business’ value. This includes earnings before interest, tax, depreciation, and amortisation (EBITDA), multiples, enterprise value and equity value.
A professional will calculate an enterprise value using the earnings basis, and once adjustments are made this will be used to gather an overall equity value of the business.
2. Net assets
The net assets basis considers the underlying value of business assets. This can be used in capital intensive industries such as farming and property. It’s particularly helpful where assets have a long life and when profits are low in comparison to net assets.
Before using this method to value a business, all assets on the balance sheet should be re-valued. It may be helpful to contact professionals who can help you do this such as quantity surveyors in order to reach a true value.
Cash flow is the money flowing through a business. Considering your cash flow can take a current or prospective viewpoint.
This method can be considered if a business isn’t currently making money is forecasted to in the future. Due to the nature of this, more estimation is required. One method of estimation used in cashflow based valuation is Discounted Cash Flow (DCF) analysis.
Discounted Cash Flow analysis (DCF)
DCF is used to estimate the value of an investment using future predicted cashflows. Under this method, the value of an investment today will be considered using future cashflow predictions. This will indicate how much it will generate in the future.
Preparing to value a business
It’s important to note that the valuation process is subjective. There are, however, some factors that affect every business’ valuation. We’ll discuss these in more depth later in this series, but some high-level factors to keep in mind in the meantime include:
Effective file keeping
Businesses with visibility over their future earnings may be valued higher. Having books and contracts ready and in order shows you run your business efficiently. This could also attract higher multiples in the valuation process because they show a number of future income streams.
A clear record of your current earnings can also make it easier to predict your future earnings.
Demonstrating a strong growth prospect
If you can demonstrate strong growth prospects across various business areas, you could attract higher-end multiples in your valuation.
You operate in a growing market
If consumer demand is high, this shows a strong likelihood of future growth for your business.
Looking for a valuation?
Whether you’re in the middle of your exit planning process, or you’re just considering it- valuing your business is a must. Not only will this lend you insight into what external buyers could be willing to pay, but it can also inform the exit route you might eventually take.
Our experts work with owner-managers to draw the fairest price for their businesses using tailored methodology to fit each unique business and their surrounding circumstances. Find their comprehensive and strategic advice in our Exit Planning Handbook.