How to Value A Business: Key Methods for Gauging the Value of Your Business

How to Value A Business: Key Methods for Gauging the Value of Your Public Company or Small Business

Knowing what your business is worth is a critical piece of intelligence as a small business owner. A company valuation helps you determine the value of your company and understand the true financial worth of the business.  

Whether you’re managing a large public corporation or running a small startup, understanding your business’s worth is essential for various reasons. You may be looking to sell your business, attract investors or need more intelligence before making a major strategic decisions. 

This guide will explore the ins and outs of business valuation, covering methods applicable to both public companies and small and medium-sized enterprises (SMEs).

Understanding public and private companies

First off, let’s just explain the key differences between a public company and a private company, and how this distinction affects your business-based valuation and the worth of your business.

Public companies

Public companies have shares that are traded on stock exchanges. As such, they’re owned publicly by a large group of shareholders, all of whom own shares in the business and have a say in how the company is run.

Public companies are subject to stricter regulations and must disclose financial information on a regular basis. This transparency often makes valuing a company more straightforward for public entities, as market prices and extensive financial data are readily available.

The market value of a company is often reflected in its stock price, though this may not always represent its true value.

Private companies

Private companies are businesses whose shares are not traded on public stock exchanges. They are typically owned by a small group of individuals, usually the founders and owners of the business, their family members or other private investors that have put money into the business.

SMEs often fall into this category of private companies. Valuing your business can be challenging, mainly due to the limited financial information and the absence of any market-based pricing.

However, understanding how to value a business is crucial for private companies, especially when you’re considering business finance options or are preparing to sell your business, or merge with another company.

Why value a business? Key reasons that business valuation is important

So, we know the different challenges that public and private companies might face when looking to calculate the present value of their business. But why is knowing this business worth and overall value so important for a business owner or the directors and executive team of a public company?

Business valuations for public companies

Public companies benefit from carrying out regular valuations for a number of important financial and strategic reasons.

A valuation is useful when:

• Providing information to your shareholders and potential investors
• Complying with financial reporting requirements in your territory
• Making decisions about proposed mergers and acquisitions
• Determining executive compensation packages for your top team.

Business valuations for SMEs

Calculating an accurate business for your small or medium-sized enterprises is more complicated, but an accurate valuation is crucial for SMEs in a number of important strategic and financial scenarios.

A valuation is important when:

• Seeking investment or loans from a business bank or lender
• Planning for succession or to sell your business
• Determining fair value for partner buy-ins or buy-outs
• Making strategic decisions about growth and expansion

Understanding the value of your business can help you make informed decisions about its future and assess its financial health.

Common business valuation methods and how they calculate the value

There are a number of common methods for working out the value and putting a realistic price tag on your business. Assessing the value can be achieved in various different ways, each of give you a slightly modified understanding of the economic value of a business.

Let’s take a look at the key ways that value can be measured and an estimate of the value achieved.

1. Book Value (or Asset-Based Valuation)

Suitable for: Both public companies and SMEs

This valuation method calculates the worth of a business based on its net asset value (total assets minus total liabilities). It’s particularly useful for asset-rich businesses or those in liquidation. For SMEs, it provides a baseline valuation, while public companies may use it alongside other methods for a comprehensive view of the business’s value.

The observable value of the business reflects the worth of a business’s tangible assets — the physical items like equipment, property, and inventory — as if they were sold for cash. This gives you a baseline estimate of the company’s market value, less the cost of your business liabilities.

Remember the value of the assets on the balance sheet (or net book value), may be different to the market value and the value at a specific time, especially if you need a quick sale and may beed to negotiate on price.

2. Market Capitalisation

Suitable for: Primarily public companies

Market capitalisation is calculated by multiplying the company’s share price by the number of outstanding shares. This method is straightforward for public companies, where you have detailed information on share prices and shareholder numbers, but wont be applicable to most SMEs.

This methof reflects the company’s perceived value in the stock market but may not account for all factors affecting the true value of a business.

3. Earnings Multiplier

Suitable for: Both public companies and SMEs

This method uses a multiplier (often based on industry and business standards) applied to the company’s earnings or net income.

For SMEs, it can provide a quick estimate of how much your business is worth, based on profitability. Public companies often use the price-to-earnings (P/E) ratio, a form of earnings multiplier, as a valuation metric.

4. Discounted Cash Flow (DCF)

Suitable for: Both public companies and SMEs

The discounted cash flow method estimates the present value of future cash flows. It’s widely used for both private and public companies, as it evaluates a business based on the time value of money.

This valuation method requires detailed financial projections and can be complex, but it’s often considered one of the most accurate ways to find the current and future value of the business.

5. Comparable Company Analysis

Suitable for: Both public companies and SMEs

This approach is way to value your business by comparing the company to similar businesses in the same industry.

For public companies, it’s easier to find comparable firms and their financial ratios. SMEs can use this method by looking at similar private company sales or industry benchmarks, though finding truly comparable data can be challenging.

6. Enterprise Value

Suitable for: Primarily public companies, but can be adapted for larger SMEs

Enterprise Value (EV) is a measure of a company’s total value, often used as a more comprehensive alternative to market capitalisation.

Of the many ways to value a business, the EV approach differs by including the market value of equity plus debt, minority interest, and preferred shares, minus total cash and cash equivalents.

Factors that affect your business valuation (and how to maximise the true value)

We’ve seen the differences in approach to business valuation that can be used for your public company or SMEs. But what are the main factors that can influence your company’s valuation and current market value?

Let’s look at the main factors and how you can aim to maximise the positive impacts on areas like your asset valuation, the financial health of your business and market perception etc.

Factors to consider include:

• Industry and market conditions: economic trends, market growth, and the competitive landscape are all external factors that can have an impact on the valuation of your business.
• Financial performance: your company’s revenue growth, profitability and cash-flow stability all impact on the perceived financial health of your business, especially for potential investors and buyers.
• Growth potential: future expansion opportunities and your innovation pipeline as a business can affect the valuation of your company. Buyers will be looking for growth potential that shows you’re a viable business that can scale, so this can impact greatly in the sale value. 
• Intangible assets: it’s not just your financial health and tangible assts that affect the value of your company. Intangible assets like your brand value, intellectual property and customer relationships are all factored in when determining how to value your overall value as a business.

All these factors apply to both SMEs and public companies, but the relative importance may vary depending on the specific business and industry.

Choosing the best valuation method for your business or company

It’s crucial when carrying out a valuation to opt for a valuation method that’s an appropriate fit for your organisation. This is true whether you’re a large public company, a small established business or a new startup. 

Selecting the most appropriate valuation method depends on various factors:

• Your company type: SMEs may benefit from using simpler methods like asset-based or earnings multiplier, while public companies often use a combination of different valuation methods.
• Your industry or sector: some industries have specific valuation norms or metrics, so you’ll need to do your research and find out what usual benchmarks and methods are for your given industry niche.
• Available data: public companies will usually have more accessible financial data, allowing for more complex valuation methods. SMEs may consider using more detailed accounting and reporting tools to improve the access they have to revenue, cash flow and profit data.
• Purpose of valuation: the reason for carrying out valuation is a big factor to consider. Is the business valuation needed due to a proposed  sale of the business, as information for potential investors, or as part of the organisation’s wider strategic planning? The specific motivations for the valuation may influence the chosen method and which approach is most appropriate.

It’s often beneficial to use multiple methods and compare results for a more comprehensive picture of a company’s value.

Calculating how much your business is worth: A step-by-step guide

Once you’re ready to start an accurate business valuation, these are the key steps to prepare for when carrying out the valuation process:

1. Gather financial information: Collect all your historical financial statements, projections and relevant market data, so you have the information required for the valuation method(s).
2. Choose valuation method(s): Select one or more appropriate valuation method, based on the factors we’ve discussed earlier in this article. make sure the method is suited to your company type.
3. Apply the method(s): Perform the calculations using the chosen valuation techniques and collect the results and outputs that give you the overall valuation number for the business.
4. Analyse the results: Interpret the outcomes of the valuation(s) and consider any discrepancies between different methods. Be sure to be realistic when assessing your final conclusions from the results.
5. Consider multiple perspectives on the valuation: Take into account both quantitative results and qualitative factors that might affect the business’s value. Any valuation is a snapshot and can be significantly affected by external factors like economic and market conditions.

Common pitfalls to avoid when making a  valuation of your business

It’s easy to trip over the more common hurdles to an effective business valuation. Avoid these common errors to ensure an accurate valuation:

• Overreliance on a single method
• Neglecting to consider industry trends and market conditions
• Overly optimistic financial projections
• Failing to account for intangible assets or business liabilities
• Ignoring the impact of key personnel on business value

For SMEs, it’s particularly important to avoid emotional bias and to seek professional advice when necessary. Public companies should be cautious about market volatility and ensure compliance with relevant regulations in their valuation processes.

FD Works: Helping you achieve an accurate business valuation

Business valuation is a complex but crucial process. By understanding the various methods available and the factors that influence a company’s worth, you can make informed decisions about the best way to value your business.

 Whether you’re preparing to sell the business, seeking investment or simply want to gauge your company’s progress, a thorough and accurate valuation provides invaluable insights into the economic value of your business.

Here at FD Works, we know that valuation is both an art and a science. Numbers are important (and we can help you calculate the most accurate financial data), but don’t forget to consider the unique aspects of your business that contribute to its true value. 

Estimating the value of your business can be challenging, so there’s real value (no pun intended) in working with an accounting firm to understand your company’s financial health, market position and your potential for future growth and success in your industry.

Get in touch to have a chat about the reasons behind your business valuation and the key ways to decide which valuation method works for you.

Book at chat with the FD Works team