When it comes to valuing businesses – listed or private – you will often hear people refer to ‘rules of thumb’.
Some will say the value of a business is:
- ‘x times its revenue’ or
- ‘x multiples of its earnings’ or
- ‘a function of its after-tax profit’ or
- ‘a function of its gross profit’ and so on.
These ‘rules of thumb’ tend to be industry based i.e. “a business in Industry A is worth ‘x’ times multiple of earnings” while “a business in Industry B is worth ‘x’ times revenue”. (I won’t repeat the actual ‘rules’ I’ve heard – I don’t want to encourage anyone to use them!)
In this week's video I provide a practical example which illustrates why relying on rules of thumb is too simplistic when valuing complex businesses.
Our view, as professional business valuers, is that while there are guidelines around what a small business might be worth compared to a large business, or what a large business in, for example, the pharmacy sector might be worth compared to a large business in the manufacturing sector etc, every business is different.
As a result, simple rules of thumb will not provide a realistic view of a business’ potential value.
Mix of methods preferred by professional valuers
There are many methods that can be used when valuing a business, including income method, cost method, business maintainable earnings (BME), underlying cash flow, assets and intangible assets, etc.
If you need a business valued, it’s important that you seek advice from a professional who has the skills and experience to make a match between:
- valuation methods,
- the specific business being valued, and
- the purpose of the valuation.
I strongly advise you don’t make a serious decision impacting your business wealth without ensuring you have a comprehensive opinion of value to provide decision support.
JPAbusiness offers a range of business valuation services. If you are considering obtaining a business valuation for any purpose, contact our team on 02 6360 0360 (Orange) or 02 9893 1803 (Parramatta) for a confidential, initial discussion.
James Price has over 30 years' experience in providing strategic, commercial and financial advice to Australian and international business clients. James' blogs provide business advice for aspiring and current small to mid-sized business owners, operators and managers.