What Is Your Business Worth?

By: Ken Lewellyn, CBI

Most small business owners think they have a general idea of what their business is worth.  Sometimes their estimate may be close to what the actual value may be.  Many times their estimate is much higher than the market will support.  “Market Value” of a business is defined as “what a willing buyer will pay a willing seller, when neither is under duress.”  This assumes that neither party has strong pressure to buy or sell.

There are a number of methods used to value small businesses.  All methods are an “estimate” of value.  Some methods are more detailed, more labor intensive, and therefore more expensive.  For the sale of most small businesses, a full-blown appraisal by a certified appraiser is not necessary.  What you are looking for is a good estimate of what similar businesses have sold for.  This is usually going to be close to what you could expect from the sale of your business.

This “Market Approach” to valuation compares your business with similar businesses that have actually sold.  Things such as Seller’s Discretionary Earnings (SDE = Net Profit plus add backs), annual sales, inventory, equipment, etc., are evaluated to find companies similar to yours.  Averages from these companies are used to develop a multiplier.  This multiplier is used with your annual sales or seller’s discretionary earnings to estimate a probable selling price.  If SDE = $40,000 and you have a multiplier of 2.3, the value of the company would be estimated at $40,000 x 2.3 = $92,000.  This is usually expressed as a price range such as $82,000 – 102,000.

The key to improving the value of your business is to increase profitability, or SDE.  If the multiplier for your company is 2.3, each $10,000 increase in SDE translates into a $23,000 increase in the value of your company.

There are a number of things you can do to increase the value of your business.  Start by watching the numbers.  Review profit & loss statements and balance sheets regularly (at least monthly).  Look for ways to reduce expenses.  Eliminate unnecessary items – if it doesn’t make you money, don’t spend it.  Look for indications of problems – is your inventory growing, accounts receivable growing, etc?  Work to understand the numbers – they are the best indicator of the health of your business.  Improving the numbers will improve profitability.

Obviously, another way to increase profits is to increase sales.  Understand and know your existing customers.  Know why they buy from you instead of your competitor.  Use this in your advertising.  Ask existing customers for referrals.

There are additional things you can do to improve the value of your business.  Develop documented procedures for running the business.  Ideally, your business operations should be documented to the point that someone could walk in and run the business without your assistance.  Train your management so that they can help grow the business.  Have a growth plan and work it.  Diversify your customer base.  No one customer should be more than 10 – 15% of your total sales. 

You may want to invest in new technology.  Investigate whether some form of technology will allow you to grow sales without adding employees.  Review your advertising.  Track your results.  Many times we spent money on advertising in the wrong places.  You may be able to spend the same or less, and double your results. 

Now is the time to focus on building the value of your business.  Take a little time and make the changes that will not only pay back now, but will increasingly add to your bottom line as business improves and sales increase.

Tennessee Business Services serves small business owners by offering services such as bookkeeping, taxes, IRS representation, business valuations, business turnaround consulting, sale of businesses and franchise advising.  Lewellyn is one of six business brokers in Tennessee to hold the Certified Business Intermediary designation, awarded  by the International Business Brokers Association.  Tennessee Business Services is located in Hendersonville, TN and can be reached at www.tnbizserv.com,  info@tnbizserv.com, or (615) 400-2150. 

The International Business Brokers Association is the largest international, non-profit association operating exclusively for the benefit of people and firms engaged in the various aspects of a business brokerage and mergers and acquisitions. IBBA has 1,950 members worldwide, with corporate headquarters in Chicago, Illinois.