How to value a business based on revenue? In short, the best way is to compare your company against recent sales of similar businesses.
If the sold companies look much like your business, you can come up with a decent value estimate using valuation multiples.
The multiples let you calculate your business value based on its financial performance.
One valuation multiple that stands out is the business price to its gross revenues. Others include value measures based on the company’s net profits, gross margin, EBITDA, cash flow, assets, and value of business owners equity.
When the price to gross revenue multiples are a good fit
So you have a choice of valuation multiples. But when does the price to gross revenues number work best? Here are the typical situations:
High growth company valuation
Imagine a company that focuses on revenue growth leaving a drive for profitability for a later date. Then its value lies in its ability to generate sales. You will do well to value such a company on its gross revenues.
Technology based company valuation
A special case of high growth businesses, the technology companies invest heavily in intellectual property development and marketing. It is not unusual to see negative returns for quite some time – even for companies with a commanding market share.
If you want to develop an estimate of market value for a technology company using comparable business sales, the gross revenue tends to be more accurate than current profits or cash flows.
Professional practice valuation
Look at the gross sales receipts for medical and dental practice valuations to figure out their value. One reason is that established practices tend to show similar profitability given the level of revenues.
In addition, the value of a professional practice directly relates to its ability to attract and retain clients. Gross revenues from client billings thus offer an excellent basis for estimating what a practice is worth.
Valuation multiples change over time – some surprises
Study private business sales data and you will run across some surprises. For example, as market conditions change in an industry, business people tend to shift their attitude on what drives business value.
Money focused investors known as financial buyers tend to value companies based on their profitability. They are less likely to be impressed by business revenues, unless the company also brings the returns they expect. These financial buyers tend to use valuation multiples based on business cash flow, EBIT, EBITDA, and net income rather than revenues.
For instance, take a look at the food and drink industry. Restaurant sales show that business buyers emphasize the price to discretionary cash flow valuation multiples.
Business valuation using several multiples
Use recent sales of similar businesses to figure out your business value. You can do it based on your gross revenues, net sales, profits, cash flow and assets.
To get an accurate business valuation, don’t limit yourself to just a single valuation multiple. In fact, you can appraise any business three ways:
- Based on the business income generating capacity.
- Based on the company’s asset base.
- By comparison to sales of similar firms.
Look at a professionally prepared business appraisal report and you will see that several methods are used to calculate what the business is worth. Explore every angle to get the right answer.