Small business and start-up owners throughout Australia will probably be feeling at least a small amount of relief after the announcements made in October’s federal Budget 2020. Businesses of all sizes have been doing it tough this year. Australian Small Business and Family Enterprise Ombudsman (ASBFEO), Kate Carnell, described the current economic climate as being the worst conditions seen since the Great Depression.
We’ve had a close look at the budget, and it looks like the government has placed a great deal of stock in the success of small business in powering the engine of the economy and getting the nation back on track for 2021 and beyond.
Knowing that, it’s an important time for you to consider your business’ financial options moving forward. Do you expand? Do you reallocate resources? Do you even consider selling? There’s a lot to contemplate, so determining what exactly your business is worth is a good starting point.
How do I estimate the value of my business?
The following are four of the most commonly used business valuation methods:
- The asset valuation method tells you what the business would be worth if it closed down and was sold today after all assets (cash, stock, plant, equipment and receivables) and liabilities (bank debts and payments due) were accounted for. (Assets) – (Liabilities) = Value.
- The capitalised future earnings method lets you compare different businesses to work out which would give you the best ROI. The capitalisation value gives the expected rate of return on investment (ROI), shown as a percentage or ratio. Determine the business’ average net profit for the past three years. Divide the business’ expected profit by its cost and turn it into a percentage. (Average net profit) / (ROI) x 100 = Value.
- The earnings multiple method is where the earnings before interest and tax (EBIT) are multiplied to give a value. The ‘multiple’ can be industry-specific or based on the business’ size. Find the earnings before interest and tax (EBIT) of the business, and multiply by an accurate business earnings multiple. (EBIT) x (multiple) = Value.
- The comparable sales method gives you a realistic idea of what you may need to pay for a business through investigating the comparable sales price similar businesses have been sold for. It’s essentially doing your research, ‘shopping around’.
Is there a benchmark or calculation commonly used to determine a business’ worth?
There is no single universal valuation method. A professional business broker, accountant, or adviser can help you decide which method is best suited to your business. This can be done by determining a combination of several factors, including:
- Your business’ comparable or estimated market value
- The likely return on investment (ROI)
- Your business’ asset value
- The comparable cost of starting a business from scratch
- The likely future profit of a similar business
Do different industries differ in how to value businesses?
Not really. There is a set of valuation methods that can be applied to determining any business’ value, no matter which industry you’re in.
- Determining the value of individual business assets and liabilities
- Estimating the likely income, based on your company’s earnings forecast and risk profile, and
- Comparing the business to similar ones in the same industry which have recently been sold.
How do I value my start-up?
It’s certainly not as easy, that’s for sure. Start-ups often have little or no revenue or profits and their futures aren’t rock-solid. Determining their value with any accuracy can therefore be pretty hard as they’ll likely lack an operating income, maybe even an actual product, and will be spending money to get things going.
A start-up can be valued by calculating how much it would cost to build another company just like it from scratch. The multiple approach, on the other hand, values the company against recent acquisitions of similar companies in the market.
Given that the bulk of the value for many start-ups rests on their future potential, a discounted cash flow analysis can forecast how much cash flow the company will produce in the future; then through using an expected rate of investment return, calculate how much that cash flow is worth.
Valuing a start-up based on a multiple of their revenue is also common, especially those with recurring revenue. What multiple to use is based on industry comparisons and also how high the start-up’s growth rate is (e.g. if you’re growing at 100% YoY you can attract a higher multiple as opposed to those whose growth is at 50% or less)
Angel investors will often use the ‘valuation by stage’ approach, where they apply a value for the business based on how far along the development stage they are (the further along, the greater the value).
Preparing your business for sale
There is no substitute for professional advice. Consider getting some advice on how to value your business. A business broker, advisor or accountant can help you:
- Analyse your finances
- Find trends in your industry’s market
- Calculate the goodwill value of your business
- Estimate your business’ future profit, and
- Work out a value for your business.
They might also have connections interested in buying your business, which could save you the cost and hassle of advertising.
Kate Carnell also forebodingly highlighted the lack of any support programs or subsidised access to professional advisers to assist small businesses to assess their viability. This is concerning, given these types of professional services are often the first to go when cashflow is tight.
As tax and accounting specialists, we encourage you to lean on, rather than avoid, your advisers for support in the coming months. Having skilled professionals on your side to give you objective business advice will save you time, money, and hopefully your business, in the long run.
To arrange a confidential chat with one of our advisers, call +612 8239 8200 or email firstname.lastname@example.org today.