When you're trying to determine the overall value of your business, a private company valuation can go a long way towards figuring out that value. But what happens during the process? How are valuations for private companies different than those for other businesses? Here's a quick look at the overall process and how the different factors and methods can impact your company's calculated appraisal.
What exactly happens during a private company valuation?
When private companies are valued, there are a number of approaches that can be used. For most successful businesses, income or market approaches are typically used to give you the most accurate value for your company. When market approaches are used, the private company is often compared to a similar public company, with adjustments made to the private company's value to make it match the public company as closely as possible.
However, there are still several different approaches even within the data that was available. Here's a quick look at the four main types of methods used when market approaches are used:
- Guideline Public Company Method - When this type of valuation method is used for private companies, the financial data that is freely available from publicly traded businesses is used. The actual price that investors choose to pay for the minority interests in public companies is used as the basis for the valuation. The public businesses that are used to help determine private business values are typically in the very same or in a similar business as the private business.
- Guideline Company Transactions Method - When companies that are in a same or similar line of business as the company that is being valued, but it is closely held and not often traded on the open market, this method is used to determine private company value. Generally speaking, both companies will have several similar characteristics. This can include the sector, the business size, the products and services offered and the location where it does business. The transactions of the publicly held company will be used to determine the transaction value of the private company, with more weight given to more recent transactions.
- Multiple of Discretionary Earnings Method - When a company is just too small for the guideline company transactions method to be used, this method works well. Smaller public companies can have their financial statements adjusted to reflect a private company. It compares public company adjusted earnings into the discretionary earnings to determine transaction value, creating a multiple for the private company's earnings.
- Gross Revenue Multiple Method - Another method used for smaller businesses, this takes the company's revenue divided by the transaction prices. This allows the appraiser to develop a gross revenue multiple, which is multiplied into the private company's revenue to determine the value. Unfortunately, this method doesn't look at factors such as whether both businesses are profitable, unprofitable or on the same level of profitability.
By understanding how a private company valuation happens, it becomes much easier to understand how your company's value is calculated. It also allows you to see how you can change those numbers by adapting your business practices to the insights you've obtained from the appraisal report. This helps you improve your company's value in the long run and can help maximize the return on your investment when it's time to make an exit strategy.