While women are passionate about the businesses they launch and run, Forbes has reported that female entrepreneurs tend to be “more conservative” than men when estimating the value of their business. The writers noted that this may be one reason female entrepreneurs are less likely to get as much financing as men: Lenders and investors look at business value before doling out support, so anyone who is undervaluing their company (even unwittingly) might be preventing their own growth.

Understanding the worth of your business can also be important for women looking to protect their assets in a divorce, and it can even ensure you’re not overpaying on business taxes. It can also allow you to sell your business more quickly if a great offer crosses your desk.

Here’s a look at three of the most common approaches to business valuation and what businesses they tend to work best for.

While you may want to work with a professional appraiser to determine the best valuation method for your business, this article can help you gather key information before doing the math together.

Asset-based approach

Think of an asset-based approach as, “You’re worth what you own.” This method typically adds up everything of value within the business (assets) then subtracts whatever you owe (liabilities and debts). The resulting number is often referred to as “owner’s equity.”

The asset-based approach generally looks at two main types of assets:

  • Tangible assets. These are assets you can physically touch, like inventory, equipment, and real estate. It also includes assets with dollar value, like cash and the monies due to you from existing sales.
  • Intangible assets. These assets are not physical but still have value — often because they give the business an edge in the market. This includes patents, proprietary technology, and customer loyalty.

Once the value of those assets is determined, the calculations turn to the business’s liabilities or debts. These may include mortgages, equipment loans, interest payments, wages, taxes, accounts payable, and other money owed to others. The total of the business liabilities is subtracted from the asset total.

Who is it best for? Businesses that have sizeable physical assets, such as real estate investments, heavy equipment, and inventory.

Limitations: This approach doesn’t take into consideration the ups and downs of the market or “anticipated” earnings and growth, which may be much higher than what your books show. Plus, the value of intangible assets can be difficult to estimate.

Income-based approach

This method is based on your history of spending and earnings, as well as your estimates of future payouts and income. In short, it looks at your business’s likely future cash flow, minus your expected expenses.

This type of calculation requires pulling out your old tax returns and doing some research on the current market and what experts expect to see in terms of growth.

Usually, you’ll want to look at your net earnings from each of the past 5 years and what you expect to spend in each of the next 5 years, based upon expenses such as real estate, equipment, technology, office needs, marketing, taxes, wages, and so on. You may also or instead do projections based on 1 year or 3 years. Keep in mind that a dollar today will likely be worth more than a dollar tomorrow, and costs typically go up, not down.

Who is it best for? Service businesses, which may generate high earnings without requiring much of an outlay of cash. And businesses expecting rapid growth in the near future (based on consumer demand, for example). In fact, the resulting value may be higher than if using an asset-based or market-based approach.

Limitations: This approach is highly dependent on forecasts, which are typically subjective. The ups and downs in the market since the start of the pandemic may make this type of calculation even tougher now.

  Tip  

If COVID-19, supply chain issues, or other factors have affected your business’s recent income, discuss the details with your appraiser and/or note them in your valuation. Be prepared to explain what you’re doing to improve matters in the months ahead.

Market-based approach

This approach compares your business to similar businesses by looking at their market value. It’s similar to a realtor comparing a new listing to other houses in the same neighborhood in order to decide what to ask for their client’s property. The difference in a business setting is that it may be more complicated to figure out what to include. Using the house example again, an expert would know whether your new fixtures and patio actually add to the value of your property.

For example, this approach may consider your sales and market share combined with similar data of competitors. Depending on your business, it may also look at future projections — for example if you own a campground and do more business in summer than winter.

Who is it best for? Small businesses that compete with bigger public firms, which provide sales data in their quarterly and annual reports. Market-based approaches can also be used as a double-check for the findings of an income-based valuation.

Limitations: Since privately held companies aren’t required to disclose their financial information in the same way as publicly traded companies, finding enough data to do a market-based valuation may be tough for some types of smaller businesses.

  Tip  

When working with an appraiser, be sure to highlight your competitive advantages, such as a well-trained staff or great brand recognition locally. This can help boost the value they place on your business as a whole.

Getting started: Find a professional appraiser

While various “do-it-yourself” tools exist for calculating business value, working with an experienced appraiser (typically, for a fixed fee) boost accuracy and confidence in the results.

How to find an appraiser? You can get recommendations or referrals from the Appraisers Association of America, local business organizations, your accountant, or another trusted financial advisor.

Understanding the value of your business is powerful insight. Working with a professional appraiser will give you an objective analysis that may also open doors to business investors or buyers when you’re ready to make your next move.

Sources: Forbes, SCORE, Small Business Trends, CFOshare, U.S. Small Business Administration, NerdWallet, Wells Fargo: The Private Bank

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