Business Valuation and How It Works

Every business should have on hand a business valuation, which is updated every year. Like a current resume and business plan, a current business valuation can allow you to take advantage of opportunities, protect your family in case something happens to you, and allow you to move quickly when you are ready to sell your business.

What is a Business Valuation 

It's a process similar to an appraisal for a home sale, in which a business appraiser inspects and analyzes the entire business. This process usually includes valuation of assets (including depreciation) and other factors. 

Businesses can be valued in several ways, depending on the circumstances of the valuation (sale or bankruptcy, for example). If a business is being offered for sale, more than one valuation method may be presented, s part of the business valuation report. Sections of a business valuation report, including an economic analysis, industry analysis, and discussion of valuation methods used.

Why You Need an Up-to-date Business Valuation

Things happen, in business as in life. Just as you should always have a resume ready, and you should keep your business plan updated, you should prepare a business valuation and update it every year.

Something could happen to you, like death or being disabled. 

You might be able to take advantage of an opportunity, like an unexpected opportunity to sell the business or do a joint venture

To add a new partner or LLC member to your business, or when a partner leaves, you will need the valuation to determine the buy-in or buy-out price. 

 You may be thinking about leaving the business. Getting a business valuation is one of the first steps in creating your exit strategy. 

To expand your business with a loan or new equity, you'll need a business valuation done. 

When a business disaster happens, it's too late to do a valuation, but having a pre-disaster valuation helps with insurance and getting back on track. 

Personal life changes like a divorce can also trigger the need for a business valuation. 

Using a Business Appraiser to Value Your Business

An appraiser is an individual who estimates the value or worth of something. An appraiser sets a value on a property or other assets, including the assets of a business. 

There are many different kinds of appraisers, many of whom specialize in various types of appraisals.  

An appraiser is an independent disinterested person who has specialized training and certifications. and uses specific standards to value business property. Appraisers use financial analysis ratios, physical review and inspection, and industry comparisons.

To find an appraiser, see the American Society of Appraisers website for a list of certified appraisers.

The Information Needed to Prepare a Business Valuation

If you are considering selling a business, here is a list of documents and information you will need to put together.

The type of information you will need depends on the purpose of the valuation.

  • Basic information includes a company history and description of the company and governing documents (bylaws for a corporation, for example.
  • Information on employees, benefits and pay, and benefit plan costs
  • The company financial statements, including balance sheet and income statement
  • Tax returns for the past few three to five years
  • Detailed information about all company assets, including intellectual property, and liabilities
  • Current legal issues, including any litigation or other disputes in the process. 

This article about information for business valuation has more details on what is included in the appraisal. 

How Intangible Assets Work in a Business Valuation

Intangible assets are those assets without physical form. These assets include intellectual property like patents, trademarks, and copyrights. They also can include contracts and licenses, technology, and customer relationships. 

No business valuation should be undertaken without considering the value of intangibles. This article discusses the different types of intangibles and how they provide value to a business. 

How Financial Statements Are Adjusted For a Business Valuation

Before a business valuation report is prepared, the company's financial statements are adjusted, to remove discretionary items and one-time occurrences, and to bring accounts to current market value.