The 3 main ways you can establish the initial price are:
• Multiple of profits
• Asset Value
• DCF (Discounted Cash Flow)
Multiple of profits
This method involves you adjusting the profits of the business to add back any benefits the current owners receive, such as running personal vehicles through the business to pension contributions. You also add back any one-off expenses that are not likely to recur for the new owner.
The starting point is to work out the EBITDA (Earnings Before Profit Tax Depreciation and Amortisation) figure and add the elements above to arrive at the adjusted profits figure
What multiple do I apply to my adjusted profit?
This is the element of valuing a business than can give wildly varying results and one that is not always simple to answer. There are many factors that affect the multiple used when valuing a business, from turnover and profit levels to the industry the business operates within. The UK average has historically been 4. For small, owner managed businesses such as cafes and fish and chip shops, a multiple between 1 and 3 is common. Manufacturing and mid-sized businesses tend to see multiples of 3 – 5 for instance. Professional help should be sought, allowing someone’s personal experience to guide you.
When a business has a lot of assets or is not particularly profitable, an asset valuation is favoured. This value will represent something slightly different depending on how the business is set up, for example, a Limited Company would need to use its balance sheet to assess its net current position. This in essence would be the asset value.
In a sole trader set up however, the assets and liabilities are the individuals and so taking account of the liabilities is not usually necessary, you would simply be taking the actual asset value.
DCF (Discounted Cash Flow)
Not a very practical valuation method for businesses operating in the SME market. This method tends to be used for larger businesses and, is usually a more accurate way to value a business. The method uses the businesses future cash flows discounted to today’s money.
If all this seems too much, don’t worry, you’re not alone. You can either visit some of our blogs for more information or, get in touch and have one of our team help put a value on the business without obligation.
If all this seems too much, don’t worry, you’re not alone. You can learn more about these methods in our detailed blog post or in our guides here. Alternatively, get in touch and have one of our team help put a value on your business without obligation.