How Much Is My Business Worth? A Seller’s Valuation Checklist

Disclaimer: We are supported by our readers. We may receive compensation from links on this page if you use products or services because of our expert recommendations. Please read our Advertising Disclosure.

Selling your small business? A solid business valuation is the key to maximizing its worth amid economic shifts.

Drawing on insights from experts Adam Hoeksema and Bobby Motch, plus SBA-aligned best practices, this guide explores essential factors like cash flow analysis, discount rates, and growth rates.

Use our Exit Checklist for sellers to confidently assess your enterprise's true value and prepare for a successful exit.

Key Takeaways:

• Understand key valuation methods like asset-based (focusing on tangible assets) and income-based (using cash flow and profits) to estimate your business's worth accurately before selling.
• Prepare financial data by reviewing profit/loss statements and cash flow, while assessing intangible assets such as brand value and intellectual property for a comprehensive valuation.
• Conduct market comparison analysis on comparable businesses, perform risk assessment to adjust for risks and liabilities, and use the final Exit Checklist to refine your seller's valuation estimate.

Understanding Business Valuation Basics

Business valuation gives small business owners a clear financial picture. It helps make smart choices, like selling during the wave of baby boomer retirements.

Why Sellers Need a Valuation

A certified appraisal or DIY valuation can enhance sale proceeds by 20-30%, as reported by the National Association of Certified Valuators & Analysts (NACVA). This approach, with professional guidance, assists sellers, including those guided by professionals such as Adam Hoeksema at Class VI Securities LLC, in maximizing value through informed strategic decisions.

Professional valuations boost your sales return on investment by about 25%, says Forbes. They help set the right price, compare to the market, and negotiate better deals.

For instance, consider a mid-sized retailer engaged in estate planning. Following a $5,000 certified appraisal, the business received an offer of $1.15 million (15% higher than the initial $1 million bid). This resulted in an ROI of [(1.15M - 5K)/5K] x 100 = 22,900%.

To achieve comparable results, begin by identifying an accredited appraiser through the NACVA directory, compile relevant financial documentation such as three years of statements, and arrange for the valuation to be conducted.

Hire a certified public accountant (CPA) to handle IRS rules. They can spot risks like undervaluing your business due to missing data and keep everything compliant for the best results.

Common Triggers for Valuation

Bobby Motch wrote about the Silver Tsunami in a January 26, 2023, article in The CPA Journal. It pushes about 70% of baby boomer owners to get valuations for retirement, per the 2018 Census report.

Along with retirement considerations, five primary triggers commonly require the preparation of business valuations:

1. SBA Loan Applications: Valuations are mandatory for 7(a) loans up to $5 million. Refer to the guidelines available at sba.gov and retain a certified appraiser for the evaluation. Initial assessment timeline: 2-4 weeks.
2. Buy/Sell Agreements in Partnerships: These ensure equitable distribution of equity among partners, often linked to key person insurance or life insurance. Review partnership documentation in consultation with a valuation expert, adhering to American Bar Association (ABA) standards. Timeline: 3-5 weeks.
3. Retirement Plans Amid the Silver Tsunami: Projections indicate that 10 million businesses will transition ownership by 2030 (Forbes, 2022). Initiate the process with an actuarial analysis, utilizing resources from the Certified Financial Planner (CFP) Board. Timeline: 2-4 weeks.
4. Estate Planning with IRS Compliance: Valuations must conform to Section 2704 regulations. Employ methodologies outlined in IRS Revenue Ruling 59-60 and consult with an estate attorney. Timeline: 4-6 weeks.
5. Strategic Sales: These optimize value in mergers and acquisitions (M&A) transactions. Apply discounted cash flow (DCF) models informed by Duff & Phelps data and engage an investment banker. Timeline: 3-6 weeks.

Key Methods

Pick the right valuation method using the approaches detailed in our guide to valuing a small business for sale. Options like asset-based, income-based, or market-based can swing your business value by up to 40%, based on U.S. Census data.

Asset-Based Approach

The asset-based approach figures out value by subtracting liabilities from assets. It often leads to valuations 20-50% lower than income-based methods.

This holds true especially for service businesses that use a simple balance sheet template.

Follow these steps to use this approach well:

1. Gather assets and liabilities with an Excel balance sheet template. It takes 1-2 hours, and you can find free help on SBA.gov.
2. Adjust values to match fair market standards using IRS rules. For instance, get equipment appraised at replacement cost by pros from the American Society of Appraisers.
3. Use this formula for book or liquidation value: Total Assets minus Total Liabilities. A factory with $500,000 assets and $200,000 liabilities equals $300,000 base value.
4. Watch out for mistakes like missing depreciation. Add a 10% tweak as in IRS Publication 551.

This method works best for businesses heavy on assets. But it often misses the value of intangibles like brand names, per a study in the Journal of Business Valuation.

Income-Based Approach

Income-based methods look at future earnings to value a business. One key way is Discounted Cash Flow (DCF), which discounts future cash at 10-15% (based on interest rates and costs) to get today's value.

For steady small businesses, this often means 3 to 5 times EBITDA (earnings before interest, taxes, depreciation, and amortization).

Here's how to do the DCF method right:

1. Normalize earnings by fixing owner pay that's too high and one-off costs. It takes 2-3 hours; try Valuatum's free template.
2. Use the capitalization or DCF model. For terminal value, divide final cash flow by (discount rate minus growth rate), with growth at 3-5% from your plan.
3. Conduct sensitivity analysis on growth rates ranging from 5% to 10%, including level risk and discount marketability adjustments, to assess valuation ranges.

Use three-year projections to dodge pitfalls from fixed numbers. A 2022 CPA Journal study shows this boosts accuracy by 15% in 500 small business cases.

Preparing Your Financial Data

Start with three years of tax returns and balance sheets for solid financial data. This approach, as mentioned in our How to Value and Sell an Engineering Company guide, cuts errors by 25%, says the National Association of Certified Valuators & Analysts.

Reviewing Profit and Loss Statements

Check profit and loss (P&L) statements by normalizing earnings. Add back extra owner pay to boost numbers by 10-20%; use a business valuation calculator for fast checks (note: Zillow Zestimate is for homes, not businesses - try BizBuySell instead).

Follow these steps for good normalization:

1. Load the last three years' P&L into a tool like Eval or Evalution (free version; setup in 1 hour). Or use CoPilot for easy review.
2. Spot extra owner pay and add it back using BizBuySell benchmarks. Example: A caf owner earning $100,000 vs. $50,000 average adds back $50,000, revealing $150,000 true earnings in a Forbes example.
3. Take out one-time costs like legal fees. This step takes about 30 minutes.

You end up with adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization). This cuts risks from hidden perks.

Back up changes with docs like receipts for solid, defendable values.

Analyzing Cash Flow

Cash flow checks turn profits into seller's discretionary earnings (SDE), which is what owners can really take home. This helps project 5-10% growth using tools like the Existing Business Projection Template.

Do this analysis with these steps:

1. Start by reviewing operating profits.

1. Export your financial data from tools like QuickBooks or Xero. This takes 15-30 minutes and helps track money coming in and going out for better planning.
2. Calculate Seller's Discretionary Earnings (SDE). SDE is a key measure for small businesses: add back non-essential costs like the owner's salary (about $50,000 on average, per NFIB) and personal car expenses ($12,000 a year) to your operating profits.
3. Use the SBA's Existing Business Projection Template to predict cash flow. Apply a safe growth rate of 5-7% each year and factor in busy and slow seasons. A U.S. Census Bureau report from 2018 shows 40% of small businesses miss ups and downs by using only average quarterly numbers.

This method helps create realistic forecasts. It cuts down on overly hopeful views. You can set it up in less than two hours for accurate business values.

Evaluating Tangible Assets

Most small businesses have tangible assets like stock and gear worth $100,000 to $500,000. We value them at replacement cost, which beats book value by 15-25% because prices rise over time.

Start by sorting and appraising your assets to find net value. Get pros to check machinery at replacement cost, like $200,000 instead of $150,000 book value. Value inventory at current market prices.

Liabilities, such as outstanding loans totaling $50,000, are then subtracted. The standard formula is: Net Asset Value = Total Tangible Assets - Liabilities.

IRS Publication 551 and the CPA Journal say this method works well for taxes. In Excel, use =SUM(B2:B10)-SUM(C2:C10). Put assets in column B and debts in column C.

Picture a store selling off $500,000 in assets at 70% value. That brings in $350,000. Subtract $100,000 debts, and $250,000 goes to creditors.

Assessing Intangible Assets

In businesses built on ideas, intangible assets make up 20-40% of the total worth. People often skip them in do-it-yourself valuations without expert help. To accurately account for these overlooked elements, explore the best business valuation services available.

Brand and Intellectual Property

Value your brand like Zillow estimates homes. It can boost your business worth by $50,000 to $200,000. Use methods like relief-from-royalty, which calculates savings from not paying license fees.

To implement this effectively, adhere to the following structured steps:

1. Conduct an initial inventory of your intellectual property, including patents and trademarks, through a focused one-hour audit to pinpoint primary assets.
2. Use the income method. Figure a relief-from-royalty rate of 3% to 5% on expected sales. A software firm might value its trademark at $100,000 using 3% of $2 million yearly sales.
3. Compare results against industry benchmarks, such as multiples of 2 to 4 times earnings, to validate the valuation.

Consult pros from the National Association of Certified Valuators and Analysts to avoid lowballing. Studies show intangibles are 25% of business value. This process reveals your brand's true worth. It helps with sales or loans, as experts Adam Hoeksema and Bobby Motch suggest.

Market and Comparable Analysis

Market methods use industry standards to set value. Forbes looked at 1,200 small business sales. They sell at 2.5 to 4.5 times EBITDA, which is earnings before interest, taxes, depreciation, and amortization.

Retail shops average 2.8 times EBITDA. A business with $125,000 EBITDA values at $350,000. See BizBuySell's report from January 26, 2023, on 500 deals.

To implement this approach, it is essential to compare the subject business against comparable transactions in the market.

• Tech startups get 4.2 times EBITDA. One sold for $750,000 with $178,000 EBITDA (Forbes, 2022).
• Service businesses hit 3.5 times EBITDA. That averages $525,000 value, per IBBA data.

Professionals use tools like BizBuySell, Class VI Securities LLC, or Valuation Academy calculators for accurate comparisons.

Adjust for location factors. NYU Stern studies recommend a 10% premium for city businesses over rural ones. This builds solid pricing for buy-sell deals.

Adjusting for Risks and Liabilities

Risk adjustments cut the value by 10-20% for hard-to-sell small businesses. They factor in the 8.5% prime interest rate to calculate the weighted average cost of capital (WACC), which is the blended cost of a company's debt and equity financing.

Tackle four main challenges to fine-tune these adjustments. Use risk models from U.S. Small Business Administration (SBA) loan guidelines, which focus on number-based risk scores.

1. Key person risk in owner-run businesses. Buy key person insurance to cut the discount by 5% and protect your value.
2. Handle liabilities like lawsuits. Estimate costs, such as subtracting $50,000 for legal fees, to get a clear picture.
3. Apply marketability discounts. Use a 15% cut for sales outside SBA rules, since hard-to-sell assets fetch lower prices.
4. Deal with growth uncertainties. Run a sensitivity analysis on 2-5% growth rates to spot possible ups and downs.

Put this into action with the CoPilot tool. Spend one hour on a risk scoring session to blend everything into your WACC.

Final Seller's Valuation Checklist

The 10-step Exit Checklist guides you through a full valuation. It projects the end value at four times the last year's cash flows, perfect for selling during the wave of retiring owners.

Follow these steps for real results, backed by AICPA standards. They keep things straightforward and reliable.

1. Gather past financials with a balance sheet template in Excel or QuickBooks (Week 1).
2. Create cash flow predictions using a discounted cash flow (DCF) model, which discounts future earnings to present value, in EvalAdd or Excel. Include a 3% growth check for variations (Weeks 1-2).
3. Use multiples from similar companies, aiming for 2-5 times EBITDA (earnings before interest, taxes, depreciation, and amortization) from BizBuySell benchmarks (Week 2).
4. Check physical assets like inventory and equipment through appraisals (Week 3).
5. Value non-physical assets, like customer lists or patents, with relief-from-royalty methods that estimate saved licensing fees (Week 3).
6. Factor in market trends using SBA economic outlooks (Week 4).
7. Add risks with a 12% discount rate to cover business ups and downs (Week 4).
8. Run scenarios: base, best-case, and worst-case (Week 5).
9. Use Deloitte's CoPilot for quick checks and comparisons to others (Week 5).
10. Combine results for a final value range, locking in the 4x end projection (Week 6). Total time: 4-6 weeks.

Frequently Asked Questions

What Is a Seller's Valuation Checklist?

This checklist is your roadmap to figuring out your business's real worth before a sale. It covers finances, market vibes, and assets for spot-on answers.

Why Use a Seller's Valuation Checklist?

A checklist prevents selling too cheap or too high, boosting your deal power. It breaks down revenue, profits, and growth in a clear way.

What Financial Metrics Matter?

Focus on EBITDA (earnings before interest, taxes, depreciation, and amortization), revenue patterns, and cash flow. These give a true sense of your business's worth through simple steps.

How Do Assets and Liabilities Affect Value?

Assets boost your worth, like equipment or customer lists. Liabilities pull it down, so subtract debts and risks for an honest valuation.

Assets like inventory, equipment, and intellectual property boost your business's value. Debts and other liabilities pull it down.

A seller's valuation checklist weighs these factors to find your net worth. This helps answer the key question: How much is my business worth?

Market Comparison in Your Seller's Valuation Checklist

Look at recent sales of similar businesses, known as comps. This step is key in your seller's valuation checklist, especially for do-it-yourself methods.

Comps help adjust for industry factors like EBITDA multiples and current market trends. EBITDA means earnings before interest, taxes, depreciation, and amortization. They give you a solid benchmark for your business's worth.

Try methods like Discounted Cash Flow to support your estimate. This approach predicts future cash flows and discounts them to today's value.

Use the Existing Business Projection Template for your forecasts. It simplifies planning ahead.

The 2018 U.S. Census report shows the Silver Tsunami impacting valuations. This term describes older business owners retiring in large numbers.

A Forbes article from January 26, 2023, spotlights this shift. It keeps the market exciting and full of opportunities.

When to Get Professional Help for Your Valuation

Turn to a professional appraiser if your business gets tricky or numbers confuse you. Look for certifications from groups like the National Association of Certified Valuators and Analysts.

Your seller's valuation checklist and Exit Checklist make a great start. Experts fine-tune them for spot-on results.

• Reach out to pros like Adam Hoeksema and Bobby Motch at Class VI Securities LLC for SBA loans. SBA stands for Small Business Administration, which offers financing support.
• Check IRS resources for valuation tips.

Online tools can give fast ideas. For example, Zillow's Zestimate works for homes, while Eval and CoPilot help with business checks.

These are handy but no match for expert advice. Get pros involved to unlock your business's true potential.