Potential buyers of your business will need to understand what sort of opportunity they are receiving by investing in it. Most businesses have a combination of assets, the primary capital consideration, as well as cashflow, the income element. Some businesses are more heavily weighted in one direction than the other, although the majority will have both elements
Buyers will often assess your business by working out how heavily weighted your company is in terms of its income compared with its assets. This is crucial to understand in terms of placing a business on the market. Some brokers have more experience selling income-based businesses, but others are more focused on capital-based businesses. Finding a broker who suits your situation is essential and will depend on your accounts and the type of business you run.
Income Considerations: The Goodwill part of the business
Businesses built around their income potential tend to have higher turnover to expenditure ratios which mean that money can be taken out of the business by the owners as income, or for other purposes, during or at the end of each tax year.
A typical income-based business will not have to reinvest heavily in stock or other assets to continue trading. Think of a business that is based on providing a service, such as an office cleaning company, for example. In such a business set-up, there are few capital costs, outside of cleaning equipment and vans, and much of these can either be finances with costs spread over time.
Few businesses are fortunate enough not to be reliant on their stock or other assets, but where the value of a business is judged by its income only, then a multiple of earnings before interest and tax and operational profit is considered the normal means of estimating the value of a company. In the example of an office cleaning company, this figure would make up nearly the whole value of the business, because expenditure associated with such a business is built into the cost of each job, like time and travel costs, so the gross profit of each job adds in a directly proportional way to the income generated, without the need to factor in many assets.
Whether you need to add the value of assets to this income valuation or not – and most business proprietors do – it is important to note that income can go up, if the business is grown successfully, or go down if competitors drive down the sale price of the service. When calculating the proportion of the value of a firm due to its income, the discounted cash flow – or DCF – method is also often used. This method anticipates the future cash flow of the business.
It is important to remember that any valuation must take into account the fact that income is variable. When calculating the element of a business’ income that relates to goodwill you will need the profit and loss accounts over the last three trading years, although some adjustments might be necessary to the profits column in order to get a true picture of the profits for the goodwill calculation. This is sometimes referred to as the average maintainable earnings.
The main benefit of a successful business with a substantially consistent operating profit is that the goodwill consideration is multiplied as there is growth and ongoing profitability.
Capital Considerations: How to value assets and property
By contrast, the valuation of capital in a business is more fixed. Normally the capital in the business are the assets of the business in question, these can range from property to desks, computers to machinery. Anything that has a saleable value is considered within the capital consideration.
Many businesses with no property and few assets other than furniture and technology, knowledge-based businesses such as recruitment companies, have very low capital consideration other than the cash held in the bank (discounting outstanding loans and debt).
Property, within reason, normally retains the market rate, but it is useful to have a valuation of the property should the business be prepared for sale as it is important that the property is valued at current market rate, not the previous purchase price or even what is declared within the accounts.
Other assets need to be considered sensibly, stock generally is worth less than what it was purchased for and certainly not at the saleable value. If stock has been held for longer than twelve months it may not have any value. Computer equipment and office furniture will depreciate over the course of a number of years.
The Formula for Business Valuation for sale: how to treat Goodwill and Assets
For most businesses that are sold, however, the income calculation is added to the assets’ worth to provide a total valuation. Along with the intellectual property and other intangible assets of a company, its capital worth comes down to all of the so-called fixed assets it has, such as property, stock, furniture and office equipment. In addition, liquid assets, like money held in the bank, should be included as part of the valuation.
So, normally you end up with a formula like this:
V = m*aE + C
Often we will quote ranges of valuation as selling a business with lots of complex assets or trading figures means that there is not necessarily a single figure which is the right price for a company. The variance can be much greater than that.
To fully value a business, whether for sale or for other purposes, requires the services of a specialist, experienced in the business buying and selling marketplace.
Explore the options available to you, improve your chances of successful sale.
If you’re seeking a business to buy, then we can increase your deal flow.
In the early stages of such an important undertaking, it can be a bit of a moral maze: who do you trust?
Firm Gains gave me confidence with detailed advice and support. I would recommend their services to other entrepreneurs seeking to buy a business.Mr T Washington , Founder
I found it much easier to get my head around a business sale this way than talking to my accountant. You speak a language I understand!
Even though the whole process of selling seems daunting, I’ve got more confidence that I’m heading in the right direction.Mrs T Boothe , Founder
Thank you for your email and the excellent advice provided earlier this week. It was immensely helpful and has helped me to plan my future direction for the practice.
I would have no problem whatsoever in recommending your services in the future.Mr & Mrs Halldron , Co-Owners
Firm Gains were recommended to me and I was not disappointed. They were efficient, helpful and effective responding quickly to my request with all the facts that were needed to ensure a stress-free dialogue with our buyer.
What really helped was the advice over and above the valuation, which was immensely valuable and gave me the confidence to proceed. I would not hesitate in recommending them.Mr C Waite , Founder
We found the advice invaluable, which was clear and concise and felt your firm had a good handle on market trends and business sectors.
With also the backup of the secondary services, there was a feeling you had all bases covered if we wanted to proceed with our exit via Management Buy Out (‘MBO’).Mr D Wills , Director
Thank you for your advice. I was just about to sign up to the wrong kind of business agent for a company of our size, but read your post just in time.
I found a more serious partner, with experience in our industry and we’re already using the same language.Mr F Summerscale , Managing Director
We have been greatly impressed by the clear and impartial advice given to us by Firm Gains. After just an initial phone call we felt much better informed, with a new awareness of the many options available to us.
Firm gains understood our situation quickly and clearly and were anything but ‘pushy’. Refreshing compared to what we’d experienced before.Mr C Hutcheson , Managing Director