How business values are determined
When conducting both Business Valuations and Market Appraisals, the JPAbusiness team will consider a range of factors that contribute to a business’ worth, including internal and external ‘health factors’.
Internal health factors include:
- business maintainable earnings (BME)
- size and strength of the business’ customer database
- work in progress and the longevity of existing contracts
- the length of the premises lease
- value of stock, fixtures and fittings, plant and equipment.
External health factors include trends and issues associated with the industry the business operates in. For example, is the industry in a growth phase, consolidation or contraction phase?
What is a business worth?
Interested in finding out what a business you are looking at is worth? Find out today! Contact JPAbusiness for an obligation-free consultation.
The Business Maintainable Earnings (BME) concept
When considering what a business is worth, the most important concept the market will consider is business maintainable earnings (BME).
BME reflects the ability of the business to generate earnings into the future.
BME are calculated using the following formulas:
Revenue – cost of goods sold = Gross Profit
Gross Profit – operating, finance and non-cash expenses = Net Profit before Taxation
Net Profit before Taxation + interest, depreciation, abnormal or non-business expenses not related to the business – owners’ wages (including a reasonable market-related amount for owners working in the business), non-business income or windfalls, other abnormal income = Business Maintainable Earnings
BME are critical to determine the goodwill associated with a business.
The higher the probability that the level of BME will extend beyond the first year of trading without the current owner, the greater likelihood that the market will recognise this in the sale price.
The market will often determine business price based on a multiple of BME.
What does ‘multiple of BME’ mean?
Multiple of BME is the term for how many years or months a purchaser is prepared to wait before they recoup the value they paid the outgoing business owner.
Imagine you’re selling your business for $1m and I’ve assessed it as having an average BME, looking forward, of about $300,000 a year.
If I buy your business it’s going to take me three and a bit years to get my money back.
That means I’m paying a multiple of BME of about 3.3.
In the small to medium-sized business market, purchasers are generally looking from one, to four and a half years, to recover the money they’ve invested.
Interested in seeking a valuation or market appraisal?
If you are considering buying or selling a business, consider appointing an advisor to provide you with a market appraisal or business valuation. Make sure the person advising you can provide comparable and up-to-date information on similar businesses and what sale prices they have achieved.
Contact JPAbusiness for an obligation-free consultation today.