Frequently Asked Questions on Small Business Valuation

On this page you will find answers to the most common questions on doing your business valuation and structuring a successful business sale or purchase with ValuAdder.

Additional free resources to help you:

Consult Business Valuation Guide for business valuation essentials, tips and techniques.
Browse Business Valuation Blog and share your thoughts by leaving a comment.
See Business Valuation Glossary for definitions and explanations of key business valuation terms.

Still have questions? Contact us by phone or online. We are glad to help.

How do I install ValuAdder?

ValuAdder is packaged in a single file, which includes the installation program. Once you have downloaded the file to your PC, simply double click on the file and the installation program will take you through the steps required.

What are the system requirements?

The recommended system requirements are:

Processor performance greater than or equivalent to an Intel^® Pentium^® III at 1 GHz.
512 MB main memory.
100 MB disk space.

What operating systems can I use to run ValuAdder?

ValuAdder is built on industry-leading Java™ technology. As a result, you can run ValuAdder on any operating system supporting the Java™ Platform, Standard Edition. We have tested ValuAdder extensively on the following computer operating systems:

Microsoft^® Windows^® 95, 98, ME, NT 2000, XP, Vista
Mac OS^® X 10.3 or later
Linux^®

What help is available for ValuAdder?

ValuAdder comes with a full-featured Online Help system which acts as your learning and information center on small business valuation and deal making. Whenever you have questions, click on the Help button at the bottom of the ValuAdder window to launch the help system. Get familiar with ValuAdder using tutorials, or get a quick reference on any calculation. All the terms used by ValuAdder are defined in the glossary for your convenience. You can also search for the terms of interest or consult the help system index.

ValuAdder also provides tips for the key business valuation terms. Point and rest your mouse cursor over the term, and ValuAdder will display a brief definition.

What is business valuation?

Check out this article on business valuation and the three approaches to measuring the business worth in our business valuation Guide.

How do I value a business?

Take a look at this article in our business valuation Guide which describes the five steps to establish your business worth. The article talks about such key concepts as the premise and standard of business value, selection and use of the various business valuation methods and conclusion of the business value.

What business valuation methods does ValuAdder use?

ValuAdder uses several leading valuation methods based on all three fundamental approaches to closely held business valuation:

Capitalized Excess Earnings
Market-derived Rules of Thumb
Multiple of Discretionary Earnings
Discounted Cash Flow
Net Present Value

The Capitalized Excess Earnings is a classical asset-based business valuation method. First introduced by the US Treasury Department in the 1920's, it is the definitive way to calculate the value of business goodwill and total business value.

The Rules of Thumb method is behind the Rules of Thumb Tab in ValuAdder. The method allows you to make quick market-based comparisons against businesses of similar type.

The Multiple of discretionary earnings method is used in the Earnings Multiple Tab for comprehensive income-based valuations. It is an example of the so-called Direct Capitalization business valuation methods.

The Discounted cash flow method, supported by the Discounted Cash Flow Tab, provides an investment-oriented valuation approach, focusing on expected benefits from business ownership.

The Net Present Value calculation, which is closely related to the Discounted Cash Flow method, adopts the investor's view of business value. It provides you with a very accurate way to determine if the business investment makes sound financial sense.

Which business valuation methods are omitted from ValuAdder and why?

ValuAdder does not use the following business valuation methods:

Asset accumulation
Capitalization of earnings
Cost to create

Asset Accumulation method is perhaps the most recognized of the asset based valuation techniques. However, it requires substantial expertise in valuing the individual business assets and liabilities to arrive at an accurate business valuation. Business asset is viewed as valuable based on how well it puts money in your pocket. Hence, we believe that the asset, market and income-based business valuation methods used by ValuAdder best reflect the true value of the business, and how valuable the business assets are.

The Capitalization of earnings method is very common in valuing small business and real estate investments. The business value is calculated by simply dividing the Business earnings by the so-called Capitalization rate. While the calculation is simple, the challenge of the method is in determining the earnings and capitalization rate to use.

ValuAdder gives you the well-known Multiple of discretionary earnings method. This income-based, direct capitalization method provides an outstanding assessment of business value without the difficulties associated with determining the Earnings and Capitalization rate.

The Cost to Create method is used by some business buyers who have a start-up business idea but wish to avoid the costs, effort, and risk of building a new business. This business appraisal strategy produces a wide range of business valuation results, which depend on the details of the buyer's business plan, including projected start-up costs, time frames, and resources. We believe that the market and income-based business valuation methods powering ValuAdder offer more consistent, predictable, yet flexible approaches to closely held business valuation.

What are the benefits of the business valuation methods used by ValuAdder?

ValuAdder philosophy is to save you time and effort while serving as a reliable, fast, and easy to use business valuation tool. The focus of ValuAdder is on meaningful comparisons, and assessment of business as an income producing vehicle.

The Capitalized Excess Earnings method gives you a systematic way to determine the value of business goodwill, as well as the total business enterprise value.

The Rules of Thumb method conserves your time by offering a quick comparison of value against similar businesses. This helps you see immediately where a particular business fits within the price range.

The Multiple of Discretionary Earnings valuation gives you a comprehensive assessment of business value based on 14 broad-based criteria. By adjusting the valuation criteria, you get a solid idea of what the specific business is worth to you. If you are selling your business, you can decide what the business would be worth to your target buyers. The Multiple of Discretionary Earnings valuation helps account for the new owner's preferences, skills, and lifestyle goals. It is an excellent method for owner/operator managed businesses.

The Discounted Cash Flow method takes an investor's view of the business value. You can fine-tune the valuation to fit a specific acquisition scenario, based upon its risks and expected returns. This is the most precise of the income-based valuation methods.

What is the difference between the project cost and business purchase price?

Project cost refers to the sum total of the funds needed to complete a business acquisition transaction. Some key components to be included are:

Business purchase price
Working capital
Closing costs
Professional fees, including due diligence costs
Any license fees required, taxes and other charges

What should I use as the seller's discretionary cash flow (SDCF) in income-based valuations?

A widely accepted definition of the seller's discretionary cash flow, or SDCF is the business earnings plus the following Addback items:

Owner's total compensation adjusted for a single owner/operator
Depreciation
Interest expense
Extraordinary, non-recurring, or non-business related income/expense items

How can I account for gains from the business sale in my valuation?

You can easily account for the cash-based business sale by using the Discounted Cash Flow valuation. Simply add the expected gain from the business sale to the projected cash flow in the last time period you plan to own the business. If you plan to hold a note, enter the projected note cash flows in the post-sale periods you expect to receive them.

How is the debt service coverage accounted for by ValuAdder?

The Deal Check Tab in ValuAdder adjusts all debt components of the deal structure by a debt service coverage ratio of 1.25 when determining the cash flow target.

Can I account for negative cash flows in my valuations?

Using the Discounted Cash Flow Tab, you can easily account for both positive and negative cash flows in your valuation. Enter the negative cash flow values into the Annual Cash Flows field, enclosing the value inside the parentheses with a $ prefix, like this:

($100000)

Why does ValuAdder reset some of my data inputs?

You have entered data that is not allowed in an input text box. ValuAdder automatically resets invalid input to a previously entered valid value when you tab over or switch to another text box. For example, if you enter a negative numerical value into an input text box that allows only positive numbers, ValuAdder will reset it to a positive value.

How do I select the multiplier values in the Earnings Multiple calculation?

The ValuAdder integrated Help System has a number of Tutorials. The Earnings Multiple Tutorial contains a detailed explanation of the Multiple of Discretionary Earnings business valuation method, including suggestions on how to select each of the 14 multipliers.

Business Valuation based on Multiple of Earnings

What are the Rules of Thumb and how do I use them?

Rules of Thumb are based on statistical analysis of actual data derived from private business sale transactions. The Rules seek to establish a reasonable range of business value by using a ratio of the selling price to some measure of business economic benefit. Typical ratios are:

Price to revenue
Price to seller’s discretionary cash flow

The choice of the ratio used by each Rule of Thumb depends upon which one is a more accurate predictor of value for the specific business type.

To refine the business value estimate for many business types, Rules of Thumb in ValuAdder may require that you provide additional inputs, such as:

Note that the number and types of inputs required depend upon the business type you choose. For example, a Rule may automatically account for all business assets and require only that you provide the business revenue as input to estimate the business price range. For each Rule of Thumb, ValuAdder enables the required inputs based upon your selection of the business type.

Do I need additional software to use ValuAdder?

No. ValuAdder is a completely self-contained small business valuation and deal structuring application that does all the work. In addition, ValuAdder integrated Help and Information System offers you valuable tips and techniques on business buying, selling and business valuation.

Can I save my business valuation or deal structure results with ValuAdder?

Absolutely. ValuAdder Reports let you save all your business valuation, deal structure, or purchase financing analysis results in a number of industry standard file formats:

Adobe^® PDF documents for immediate viewing and email.
CSV format, which you can import into your spreadsheet application of choice, like Microsoft^® Excel^®.
Web page to view with any browser.

Of course, you can also print your business valuation and deal structure results as a professionally formatted report.

Can I save my business valuation or deal structure scenarios with ValuAdder?

Yes. You can save any number of valuation scenarios with ValuAdder. Your inputs are stored in a file in the state-of-the-art XML format. Just click on a scenario file to open it in ValuAdder. Then continue your work right where you left off.

Can I do several business valuations with ValuAdder simultaneously?

Yes. You can open any number of ValuAdder windows from the File menu. Perform your business valuation and deal structure calculations in each window, compare the results side by side, then save the contents of each window as your valuation scenario in a file for further use.

Can I do my business valuations with ValuAdder in any currency?

Absolutely! ValuAdder automatically displays the correct currency symbol based on your computer system geography settings. You can also change what currency you wish to use for your business valuation calculations easily. For example, here is the procedure to change the locale to the USA on a computer running MS Windows^®:

Click on the Start menu on your MS Windows^® desktop. The menu is at the lower left corner of your computer display.
Point your mouse to the Control Panel.
Double-click on the Regional and Language Options item. MS Windows^® launches a dialog box window.
Choose the English (United States) from the list next to the Customize button.
Click OK button on the dialog box.
Now restart ValuAdder. It should display your currency values with the $ symbol.

What type of business value definition do the Rules of Thumb use?

The Rules of Thumb in ValuAdder rely upon the fair market value standard to determine the business value. The Rules are based on the comparative pricing data derived from actual sale transactions which involve similar business types. The reported business sale transactions are conducted on an arms-length basis that is consistent with the fair market value standard.

Check out other business value standards commonly used for small business valuation.

How do I value a start-up or business with a substantial earnings upside?

You can use the Discounted Cash Flow business valuation method in ValuAdder to translate the business earnings upside into an accurate indication of value.

Project the expected cash flows that represent the business earning potential over a required future period. Determine the discount rate that best reflects the risks associated with receiving these cash flows. Estimate the net proceeds you can expect to realize from a future business sale. Then use these inputs in ValuAdder to determine the business value today.

The Discounted Cash Flow is the preferred business valuation method when determining the value of young growing businesses and start-up companies.

Can I use ValuAdder to value a business whose earnings vary a lot?

Absolutely! The Discounted Cash Flow business valuation method lets you account precisely for the business earnings expected to occur at each point in time. ValuAdder determines the business value based on the cash flow stream you specify and the discount rate that reflects the risks you associate with receiving these cash flow benefits.

Take a look at how to build up the discount rate that best fits your business valuation situation.

How can I value a business with higher than normal asset base?

You can use the Multiple of Discretionary Earnings business valuation method available on the Earnings Multiple tab in ValuAdder. In addition to applying the 14 key business valuation criteria, the Multiple of Discretionary Earnings method lets you directly account for the excess or non-operating business assets, such as the business real estate.

One way to do this is to appraise the business real estate separately, adjust the income statements for the fair market rent expense of leasing the premises, and factor the real estate into the business valuation as a non-operating business asset.

See how to recast financial statements to prepare for your business valuation.

Can I use ValuAdder to track changes in my business value over time?

Yes, indeed! ValuAdder offers several standard income-based business valuation methods. These methods let you determine the business value based on a number of financial and operational business performance factors.

As business performance varies over time, so does its value. The 14 valuation criteria in the Multiple of Discretionary Earnings business valuation method let you see how business performance in each area affects its value.

One of the key performance measures affecting business value is the business earnings track record. ValuAdder includes several financial recasting worksheets that help you determine key business valuation inputs starting from the company's historic financial statements.

You can perform the important steps of reconstructing the historic financial statements and generating forecasts. Using these tools you can see how the business's past financial performance and projected earnings influence its worth.

What business valuation formula multiples should I use?

You have quite a choice of business valuation formula multiples under the market approach to valuing a business. All multiples are ratios that relate some measure of business financial performance to its potential selling price.

The most commonly used business valuation formula multples are based on business earnings, either its revenues or profitability. Here are the typical income-based valuation multiples:

Business selling price divided by gross revenue or net sales
Business selling price divided by SDCF or net cash flow
Business selling price divided by EBITDA, EBIT, EBT, gross profit or net income

You can also use asset based valuation formula multiples to estimate the business value. The most common multiples used for small business valuation are:

Business selling price divided by Furniture, Fixture and Equipment assets
Business selling price divided by total assets
Business salling price divided by the book value of equity

You may choose some valuation multiples over others because they allow you to better estimate the value of a specific business. For example, business price to gross revenue or net sales valuation multiples are frequently used when valuing young or growing businesses. These firms may have excellent earning potential but would need more time to achieve full profitability.

In general, it is a good idea to cross-check your business valuation results by using several valuation formula multiples. ValuAdder Business Market Value Reports give you over 40 industry-specific valuation multiples to choose from.

What industries are covered by ValuAdder business valuation rules of thumb?

ValuAdder market-derived business valuation rules of thumb support 410 unique types of businesses and professional practices.

You can get quick and accurate business value estimates based on recent business sale comparables for virtually any business. Here is the brief list of the major industry groups:

Automotive services and dealers
Business consultants
Construction industry
Educational services
Energy sector companies
Engineering, architecture, accounting, law and management firms
Financial and insurance services
Health care and social services
Internet and technology firms
Manufacturing firms
Personal service businesses
Professional practices including dental, medical and law firms
Real estate
Restaurant industry
Retail businesses
Transportation and communication services
Wholesale and distribution businesses
And many more

For a complete list of the business market value coverage by industry, please
contact us online!

Does ValuAdder consider company-specific risk in calculating business value?

Yes! ValuAdder financial recasting worksheets let you determine the company-specific risk premium by ranking the business across ten key risk factors:

Earnings stability
Financial leverage risk
Operating risk factors
Profitability
Customer concentration
Product concentration
Market concentration
Competitive position
Quality of the management
Skill of employees

Now you can determine the discount rate precisely to capture the overall risk of owning and operating the business. This is essential for getting a highly accurate business valuation.

See how to build up the discount rate for your business valuation.

What is the most common measure of value in business valuation?

By far the most common measure or standard of business value in small business appraisal is the fair market value. Fair market value is thought to be decided by the market participants - business buyers and sellers. Since many business valuation experts and business people believe that the market place is the ultimate judge of what a business is worth, fair market value is the de facto standard used in most business valuations.

Experienced business buyers may seek to realize strategic benefits through a business acquisition. When valuing a business for acquisition, such business buyers often apply the investment standard of business value. Unlike fair market value, the investment standard measures what the business is worth based on the business buyer's specific objectives.

You can estimate the business fair market value by comparing it to sales of similar businesses. One effective way to do so is to use ValuAdder market-derived business valuation rules of thumb.