Small Business Developmnet Column: Determining the worth of your business when selling

In the last year, at the Small Business Development Center, we have started to see a lot of business owners who are exploring potentially selling their businesses. COVID has given people time to think and take a good hard look at their lives, and some have come through the last couple of years with the decision to take a different direction, or to finally make that step into retirement. Here at the SBDC, we’ve been working with a lot of business owners who are thinking about selling, as well as buyers who see a potential opportunity.

One of the questions I get most frequently from business buyers and sellers is, “how much is this business really worth?” We can help business sellers and buyers begin to start answering this question by putting together a rough valuation of the business. The SBDC is not a professional valuation agency. There are accountants we can refer the business to if they need legal valuation, but the SBDC can help give business owners a rough estimate on how to get started.

The first step is to get the last three years of the business’s tax returns and take the average of the yearly sales, cost of goods and overhead expenses in these three years. At this point we will note any trends. Are sales and costs pretty steady, or are they increasing or decreasing in a set way? We also will take into account that 2020 was, for almost all businesses, a non-typical year. So, sometimes I will weight the 2018 or 2019 returns more strongly, or even remove 2020 all together if the business was closed for a significant part of the year. This assumes that the years before the pandemic provide a more accurate picture of how the business will continue to perform into the future with a new owner.

The next step is to take a hard and very detailed look at the tax returns, and figure out if there are any expenses that are either the owner’s personal expenses, one-time capital expenses, or other kinds of expenses that a new owner would not assume. Some examples include if the business was paying for personal travel or a personal cell phone, or if the business owner was providing income or a vehicle to a child or spouse. Other things we take out include depreciation, interest on any loans the buyer will not assume, retirement plan contributions and any one-time consultant or other services that the buyer will not also require. Once this new profit amount is figured, we can use industry multiples to give a very general rule of thumb valuation for the business.

A secondary type of rough valuation that I usually do with clients is to see how much of a loan the business would support with the current level of profit. Most of the buyers I work with will require a bank loan, and the bank will usually not offer more funding than the business’s current tax return can support, unless there are very strong arguments regarding how the new business owner would make significant changes.

At this point we step back and see if the business is truly sellable as a business, or if it would be more profitable just to sell the assets. Sometimes, if the business is not making much profit, selling the land, buildings, equipment and other assets to another business in the same field or for a new business owner to start fresh may make more sense.

The next question becomes, “How to value the assets?” For land and buildings, a real estate agent and local tax office can provide an estimate of the value of the property. For equipment and other items, the business owner may have to do a bit of research to discover what similar used items are selling for. We have clients look at EBay and other sellers of used items in their fields.

Whatever sales method is chosen, creating a rough valuation is an important first step. If you are considering buying a business or are thinking about selling yours, you can reach out to your local SBDC office for free and confidential assistance. We are especially sensitive about the confidentiality aspects of selling a business. You can reach the SUNY Canton SBDC at (315) 386-7312, SUNY Canton SBDC at Clinton Community College at (518) 324-7232, or the Watertown SBDC at JCC (315) 782-9262.

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