What is the Rule of Thumb Business Valuation?

How much is your business worth? There are numerous different methods of business valuation. In this article, we’re going to talk about the rule of thumb business valuation. 

If you’re like many business owners today, you may not know how much your business is worth. But if you intend to sell in the near future, you’re thinking about an exit strategy down the line, or you’d like to bring in investors, understanding exactly what those numbers look like is critical. Not sure how to value a business quickly? To get an overview, you may want to use a rule of thumb measurement. 

In Terms of Buying or Selling a Company, What is the Rule of Thumb Business Valuation?

A rule of thumb is usually a brief way to measure a business, and it’s typically based on just one specific part of your company, like your revenue or your earnings before you think about depreciation and taxes. There is basic math involved, and the math varies depending on the industry in which you operate, but typically these kinds of numbers will provide you a range with which you can work to formulate some basic ideas about your business. 

Many believe the basic rule of thumb business valuation is really either one or two methods. The first is a percentage of the last 12 months of sales and revenue. This is sometimes called revenue multiples. 

The other option is to use an earnings multiple. In this method, the multiple is used against the Seller’s Discretionary Earnings (or SDE). Typically the multiple is between one and four. Using this method, you look at the ratio of the stock price to the earnings. The higher the ratio, the higher the overall value of the business. Typically the earnings number is taken before interest and taxes.

Other Options

While using a rule of thumb business valuation will give you a number, there are other options out there that are just as quick and easy. For example, the market method looks at the value of the assets of the company and the net worth of other similar companies to come up with an overall value. For example, if your company currently holds $1 million in assets, and a competitor in the same industry has about the same asset numbers, you can look at their overall valuation to determine your own.

While this method has some issues, there are many other options available. Online, you can typically find a number of business value calculators that ask you to plug-in sales, profits, expenses, assets, and even the owner’s salary to come up with business value estimates. 

What’s important to note is that the method you use to value your small business may depend on the business itself. Numbers vary from industry to industry, as does the economic outlook. The quality of your team could change your company, too, as could the location of your business. 

Remember, the marketplace will determine the ultimate value of your business, but if you’re looking to add value or just assess where you’re at, these basic calculations can help, but they’ll just give you a place to start more than anything else. 

Hoping to add a bit more value to your company or get a clearer picture of where you’re at? Give us a call. We offer a free health check to help you decide how to best move forward with your company.