How do you value a business?

[obiwonkeyblokey]

This is purely theoretical.( or is it hypothetical)

How would you go ab out a rough "rule of thumb" for valuing a business. I have no intention whatsoever of selling but someone over the weekend asked me what my company was worth and I really didnt have any way of quantifying it. I have 2 recruitment companies, both in profit and been trading for 2 years. Property is rented and all computers, servers etc are owned. No outstanding debt and 5 staff.

Is it a stick your finger in the air and think of a number calculation?

[Size Nine Elm]

There are two values for a business. There's the value on the balance sheet - but in a service business this may not be very high, there's a large 'intangible' which is your trading record, your customers, your expected business flow.

If you are selling a business, there's the other valuation - the price someone is prepared to pay.

e.g. TVR selling for £15m was probably way above the 'book' price on the balance sheet.
I have never seen TVR's accounts, and the statement above may be complete bollox.

[srebbe64]

I've bought and sold dozens of companies over the years, and it depends which side of the table I'm sitting when I value it. In short, it's worth what anyone will pay for it. From an accounting perspective, the most common way is a multiple of operating profit, factoring in the departing owners' emoluments and a replacement charge. Typical multiples range from 3 to 10 for small companies, depending on the sector. A recruitment company would probabaly be midway between these figures. Say, 6 times (adjusted) OP. However, it depends how badly the buyer wants it and how badly the seller wants to sell.

Edited to add: Also, if the company has a significant asset base, this can also have an impact on price, because the risk is reduced.



>> Edited by srebbe64 on Monday 4th April 16:37

[obiwonkeyblokey]

Thanks Steve ( & Neil),

I realised that over the weekend that my wife and I have worked very hard over the past couple of years on building 2 companies and s we have limited what we have been paying ourselves, I was curious to see if we were likely to benefit in the long term and to what sort of figure. I would see us building both over the next 6-8 years before exercising an exit strategy.

Owen

>> Edited by obiwonkeyblokey on Monday 4th April 18:18

[srebbe64]

If you want to maximise the value of the companies, there are a few things you should think about in advance.

1) Try and ensure that the companies are not overly reliant upon you or your wife. Try and delegate as much management as possible before you come to sell them. Ideally, reduce your working hours in the months leading up to the disposal - to prove that the 2nd tier management is robust.

2) As far as is possible, try not to be vulnerable to any individual customers, suppliers or employees.

3) Try and build up the "goodwill" element of the companies (reputation, brand names, etc.)

4) Keep one eye on the Inland Revenue. At the moment, if you've owned the businesses for more than two years you can get 75% Tax Relief on CGT. This, in effect, means you'll only pay 10% Capital Gains Tax. However, there are rumours afoot that the Chancellor is planning on reducing (or eliminating) this.

5) The implications of every decision you make in the coming years is likely to impact on the value / sale / desirability of the companies.

[tvrforever]

srebbe64 said:

Typical multiples range from 3 to 10 for small companies, depending on the sector. Edited to add: Also, if the company has a significant asset base, this can also have an impact on price, because the risk is reduced.

I've been looking at this for some years and have never found an answer for a company that has not been structured to have a large profit for many years (e.g. end of year large pension deposits, bonus payments, high dividends, asset purcases etc at the end of the year).

I've always thought there must be a simple way to value a company based on revenue Vs real costs - extracting the 'variable cost' elements. Also never sure how to value long term contracts, industry reputation, and future order book?

[srebbe64]

tvrforever said:

srebbe64 said: Typical multiples range from 3 to 10 for small companies, depending on the sector. Edited to add: Also, if the company has a significant asset base, this can also have an impact on price, because the risk is reduced. I've been looking at this for some years and have never found an answer for a company that has not been structured to have a large profit for many years (e.g. end of year large pension deposits, bonus payments, high dividends, asset purcases etc at the end of the year). I've always thought there must be a simple way to value a company based on revenue Vs real costs - extracting the 'variable cost' elements. Also never sure how to value long term contracts, industry reputation, and future order book?

It's very simple, one has to establish the "real" profit of a company by adding back the owners' pension, bonuses, and all the various benefits that an owner will extract from a company, but also add-forward the replacement cost of the owner. This is the reason that sometimes it looks like a low-profit-maiking company has been sold for an enormous multiple. In fact, the company is more profitable than simply the bottom line. Remember though, "dividends" are what you choose to do with profits so these can't be added back.

Regarding long-term contracts, in many there is a clause which says "in the event that either company is sold, the contract is nullified". So the lawyers get on their hobbyhorses, but in the real world contracts aren't worth much anyway because if you cheese off a client you'll lose them regardless of any contract. Regarding reputation, this is part of the goodwill (the company value above and beyond its shareholders' funds / net assets). And it really is a case of "what's it worth to a buyer" - so there is no correct price.