Valuing your business
- Gé Sletterink
- 10 Dec 2020
- Edited 30 Oct 2023
- 3 min
- Selling and takeovers
How much is your business worth? This is a key question when selling your business. There are several methods to determine the value of your business, based on your business’s financial data. However, the value is not determined based on your accounts alone. Other factors play a role as well.
The value of your business is not necessarily the price you can receive for it if you intend to sell.
Normalising the balance sheet
Before you can estimate the value of your business, you must ‘normalise’ the balance sheet. Make sure that there is a clear separation between business expenses and personal expenses. Eliminate any items which are not part of the business operations. At the same time, any items positioned too high or too low on the balance sheet must be corrected. Provide a realistic picture of your business’s balance sheet.
Value is a subjective judgement: there is no such thing as ‘the’ value. Most buyers will tend to use forecasts of future income as a basis. There are several methods for determining value:
- Discounted cash flow: Calculates value based on future free cash flows.
- Intrinsic value: the business value is the difference between the value of the assets and liabilities (that is, equity capital).
- Profitability value: This equates profit to a desired rate of return
Note that there are pros and cons to any calculation method. A consultant (in Dutch) can help you value your business.
You can find the value of your business assets in your administration. It is more difficult to value other items. For example when your business makes additional profits due to expert staff or an exceptional product. This added value of your business is referred to as ‘goodwill’.
There are two types of goodwill.
- Corporate goodwill derives from the company’s name, reputation, or past performance. The buyer will benefit from these assets after the acquisition. This should reflect in the asking price.
- Personal goodwill is linked to you as a business owner. It disappears when you transfer the business.
Terms agreed regarding payment of goodwill
Can you and the buyer not reach an agreement on the value of the goodwill? You can opt for an earn-out plan. Under an earn-out plan, the buyer pays you a proportion of the goodwill immediately on takeover. After an agreed period, you will then review the results together. If the buyer continues to profit from ‘additional profit’, they will pay the remainder of the goodwill at a later stage.
Value and price
The value you calculate is not the same as the price the buyer will pay. This price depends on the following factors:
- Alternatives for you and the buyer
- Negotiation techniques and skills
- Reasons for buying and selling
Shadow price factors
It is not just turnover (revenue) and profit that affect the price; shadow price factors, and other elements that help determine the price also play a key role. These are:
- Essential investments: Keep investing in your business during the period before the sale. A buyer is not interested when they need to start investing immediately upon acquisition.
- Replaceable business owner: If you employ staff, demonstrate that the business can run successfully without you. Delegate some of the decision-making responsibilities.
- Current customer base: a customer relationship management (CRM) system shows who your customers are, their payment behaviour, and their loyalty.
- Unique location: A prime location in a city centre or a high-profile location along a motorway increases your name recognition and visibility. This could potentially improve your financial performance.
- Exclusive rights: Products, services, or brands only your business is licensed to operate can help increase customer loyalty.
- No need to sell immediately: A buyer who is aware that you are looking to sell your business right now will likely try to persuade you to lower the price. So, you should start looking for potential buyers at an early stage and keep some other candidates on hand just in case.
The shadow price factors are part of the goodwill.
Determining the asking price
After valuing your business, you must set the asking price. This price forms the basis for the negotiations (in Dutch) you must conduct with the potential buyer. Keep the asking price realistic and justify this price for yourself. Determine the minimum price you would like to receive for your business. Also, try to see the buyer’s point of view. What benefits do they perceive, and what price are they willing to pay?
If you are selling your business to family (in Dutch) or (a) member(s) of staff, you may not want to ask the highest price. But you must ask for a market-level price. Otherwise, the tax administration will classify the sale as a gift. That means the beneficiaries will need to pay gift tax.