5 Factors That Affect Your Business Valuation

Stop. Ask yourself: “When is the last time you’ve thought about how much your business is worth?” If the answer is “I don’t know”, you are not alone. Most entrepreneurs and business owners never think about the value of their business until they want to sell the business. Unfortunately, it is often too late to increase the business value if the first time you think about getting a business valuation is when you are ready to sell.

Business valuation is an approximation by a professional telling you how much a willing buyer on the open market is likely to pay for your business. No business valuation is perfect, because ultimately no one knows exactly how much a buyer might offer for your business. However, the majority of business buyers consider the following factors important in determining how much your business is worth:

  1. Historical financial performance. Business buyers want to know how your company has performed financially for the last 3 to 5 years. If revenues have been trending down and expenses trending up, it can be a sign of caution. During the business sales process, the buyer will likely ask for your financials. This often includes your profit and loss statements, balance sheets, and tax returns. Having strong financials is key to increasing the value of your business.
  2. Future growth potential. In addition to knowing where your company has been in the past, business buyers want to know how much they can grow your company. What are the key trends affecting your industry? Where are your revenues and profits projected to be, and why? What strategies are the current owner not doing that if the new owners were to implement would dramatically increase business?
  3. Size of customer base. The size of your customer base plays a role in your business valuation because it is an indication of the amount of diversification, and therefore an indication of risk. Imagine if a business only has one client. That is a risky business for potential buyers because if the one client stops doing business with the company, the company would lose 100% of its income. A customer base that is well diversified and large in number would lower the perceived risks in the minds of buyers, and therefore enhance your business value.
  4. Dependence on top clients. Closely related to the overall size of your customer base is your dependence on your top clients. What percentage of your revenues come from your top 3 or top 5 customers? To illustrate a point, a company where 90% of its revenues comes from its top client is considered extremely risky to business buyers, which lowers the valuation of the business. The less dependent you can be on your top clients, the higher your business valuation will be.
  5. Dependence on owner. Another important factor that can affect the results of your business valuation is how dependent the business is on the owner. Unless the business sale is a larger mergers and acquisitions transaction where the current ownership gets hired by the acquiring company after the sale, the owners of most small businesses do not intend to stay with the business after the sale. For small business sales, the less dependent the business is on the owner, the higher the business valuation can be.

The five factors above that can affect the results of the business valuation is by no means a comprehensive list, but a starting point for those wishing to maximize the sale price of their business. Waiting until you are ready to sell the business is usually too late to dramatically change the value of your business. As Dr. Stephen R. Covey says in his book The 7 Habits of Highly Effective People, “Begin with an end in mind.” Get your business valuation done early, know how much you want to sell your business for, and learn what it takes to get there.

Advantage Business Valuations provides business valuation services for small to mid-sized business owners in the United States. Founded by Aaron Muller who has valued thousands of companies as a business broker, Advantage Business Valuations helps small to mid-sized business owners determine the value of their business with ease and confidence. To discover the value of your business, visit www.AdvantageBusinessValuations.com.

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