The type of small business you own and its operating history will largely dictate how a certified valuation analyst (CVA) will approach appraising your company. The industry-accepted methodologies considered and ultimately relied upon will play a material role in determining its overall value. Here are a couple of examples:
Scenario 1: If your business has been established for several years in a competitive industry and has shown steady revenues with modest levels of annual growth, then it’s likely the CVA can use both income and market-driven approaches to value. The income approach will consider this consistency and create a discounted cash flow analysis utilizing the Capitalization of Earnings Method. This approach will consider your adjusted net income and create a future income stream which can then be brought back to a current date using an appropriate discount rate.
Under this scenario, the appraiser can also consider and rely upon two types of market approaches, one driven by your company’s annual gross revenues and another by your adjusted net income. By applying multiples to these figures derived from similar market comparable transactions for your industry and business type, the CVA will be able to estimate value.
The result will create three different value perspectives, which can be weighted equally or favor one approach over another depending on the reliability of the variables involved.
Scenario 2: If your business is in its infancy with minimal to no historical financial data behind it, or if it is in a somewhat unique market, then it is likely the CVA will only be able to rely on the income approach to value. In this case, they may look for you to provide a reasonable 5-year forecast which can be factored into the analysis while utilizing whatever financial data is available. Startups looking for new investment for working capital are examples of this as well as companies who operate in niche markets where no comparable data is available.
Scenario 3: Your business has been in existence for a long time but stagnating over the past few years, possibly as a result of the COVID pandemic, or other market factors, with stabilization and future growth becoming highly unlikely. In this instance, the market approach may be the only option as the income of the business has been inconsistent and unreliable.
In summary, it’s always important to take a proactive approach when obtaining a valuation of your small business. Speak with a certified appraisal professional to learn more about what options will work best for you.