How Much Is My Business Worth?

For many established private businesses, the starting point is maintainable earnings. These are the earnings the business could reasonably be expected to generate under new ownership.

An adviser will review several years of financial results, recent trading and the circumstances behind any unusual figures. They may adjust for genuine one-off costs, personal expenses paid through the business or an owner’s salary that differs from the cost of replacing their role.

These adjustments need to stand up to scrutiny. If the owner has been doing the work of a general manager and a sales manager, a buyer will need to pay someone to do that work. Simply adding back the owner’s entire salary would overstate the earnings available to the buyer.

The measure used might be EBITDA, EBIT or another measure of profit, depending on the business and how comparable sales are assessed. What matters is that the earnings figure gives a fair picture of what a new owner could sustain.

A valuation multiple reflects how confident a buyer can be that the earnings will continue. Consider two businesses that each produce $500,000 in maintainable earnings.

In the first, the owner manages the major customer relationships, approves every important decision and holds much of the technical knowledge. In the second, an experienced team manages day-to-day operations, customers are spread across many accounts and the business has reliable systems.

Their profits may be identical, but a buyer is likely to see less risk in the second business. That can support a higher multiple and a higher value.

Buyers commonly look at:

• Owner reliance: Could the business perform well if you stepped away?

• Customers and revenue: Are sales recurring, and is too much revenue tied to one or two customers?

• People and systems: Can the team deliver consistently without relying on informal knowledge?

• Profit quality: Are margins stable, and do the reported earnings translate into cash?

• Market position: What makes customers choose the business, and how easily could a competitor take them away?

• Growth prospects: Are there credible opportunities a buyer could pursue, supported by evidence rather than hope?

Once maintainable earnings and risk have been assessed, an appropriate market multiple can be applied:

Maintainable earnings × valuation multiple = indicative business value

For example, if maintainable earnings are $500,000 and the appropriate multiple is 3, the indicative value is $1.5 million.

The difficult part is determining whether $500,000 is truly maintainable and whether a multiple of 3 fits that particular business. A strong year does not automatically become the new normal. Equally, a temporary setback may not fairly represent the business’s underlying performance. Comparable transactions can help, but the terms of those sales and the differences between businesses matter. Australian Government guidance also notes that valuation methods and the assets included in a sale may need to be considered with the buyer.

The figure produced by an earnings multiple is not always the amount the owner will receive at settlement. The final price depends on the agreed sale structure and what is included.

For example, the parties may need to agree how stock is valued, what level of working capital will remain in the business, and how cash, debt or surplus assets are treated. Employee entitlements and other liabilities may also affect the final amount. A buyer’s offer may include deferred payments or conditions that change its practical value to the seller.

This is why it is important to compare offers on their full terms, not just the headline price.