Purchasing a small business is a great way to become your own boss without doing all of the legwork that goes into starting a business. That said, it’s not without its own risks. You don’t want to purchase a business that is in the red and end up losing a ton of money.
One way to make sure you’re making a sound investment is to complete a valuation. Not sure how to value a small business? Read on to learn how!
Adjusted Net Asset
In order to utilize the adjusted net asset method when buying a business, the seller needs to have meticulous records, especially their balance sheet. When you can use this method, it’s actually a very simple way to determine the value of the business.
First, you will want to calculate the value of the assets the business has. This can include things like real estate, machinery, and appliances. Then, you will want to deduct the amount of liabilities the business has in order to get a rough idea of the overall value.
Sellers often utilize this method to determine the minimum amount they will accept on the sale of the business.
Adjust your numbers of some of the accounts receivable are unlikely to be paid in full in order to get a more realistic idea of what the business is worth.
Another way to determine a business’s value is to determine how much it stands to earn in the future. In the capitalized earning method, you would look at the business’s historic income in order to project how much the business stands to earn.
This number is then divided by a particular capitalization rate that ranges between 10 and 100 percent. The capitalization rate is based upon the amount of risk involved in the business.
Low-risk businesses tend to have a lower capitalization rate than high-risk businesses. This means that two businesses of equal annual income are worth two very different amounts. Expect to pay significantly more for a low-risk business than a high-risk business.
Contact a Professional
Valuing a small business is often a complicated process involving a lot of different numbers. If you’re savvy in the valuation process, don’t be afraid to hire a professional to help you determine how much a small business is worth. It might cost more upfront, but it will save you a ton of heartache in the future.
There’s nothing better than peace of mind when you’re making an investment in a small business.
Learning How to Value a Small Business Is Easy!
These are just a few of the many methods you can use to value a small business. Try running calculations on a couple of different methods in order to boost your confidence. If you don’t feel comfortable calculating the business’s value on your own, then there are plenty of professionals available to help you determine whether to purchase the small business in which you are interested.
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