Valuing a business is a worrisome necessity for many business people- on one side for those who want to sell who fear undervaluing the business and those interesting in buying, who on the other hand, are scared of overvaluing the business and ending up with losses. Thus, the issue of valuation is a contentious one. While there are professionals with fancy, expert techniques for valuation, there are simple methods you (the owner or potential buyer) can use to find, at least dome estimated range for the value of a business. These are 3 of such approaches
Using a business’ assets
This is the crudest method but probably the best place to start. What does the business own? What equipment? What inventory? What do these cost in the market today? This means if a potential buyer were to start the same business, (s)he would have to make the same purchases. Thus, the value of these assets could serve as a minimum benchmark of how much a business is worth. For entrepreneurs, this highlights the need have good books, which will go a long way in showing any future buyers the exact of the business’ assets.
This is another method of estimating the value of a business at a glance. Looking at the revenue of the business over the past couple of years can provide an average estimate of the potential revenue stream of the business. Next, depending on the sector or industry, there is a usually accepted minimum multiple of the revenue stream that business is sold for. For example, if a business has an average revenue stream of N1 million over the past 3 years and the industry’s going rate is “two times sales”, then the minimum value of the business is N2 million.
Discounted cash-flow analysis
However, as experience shows, this is usually not a good estimate of how profitable a business is. An oft quoted example is Amazon, who despite having revenue stream of billions of dollars hardly makes any profit. Thus, looking just at earnings is not usually sufficient. This is why the discounted cash-flow analysis technique was developed. looks at how much cash the business generates each year, projects it into the future and then calculates the worth of that cash flow stream “discounted” using the long-term interest rate of some safe investment like the treasury bill. Thus, for example, in the business considered earlier, if the interest rate of treasury bills is 3%, the value of the business is at most N33.3 million. Of course, since a lot more risk and effort is required in running a business, the worth of the business is far less than that amount. A drawback though is that this technique assumes that the teashop will have the same earnings year after year, and assumes that only monetary return matters.