What Is the Formula for Calculating Business Value?
The most common formula is: Business Value = Normalised Earnings × Capitalisation Multiple. Normalised earnings remove owner-specific and one-off items to reveal sustainable profit. The capitalisation multiple (typically 2-5x for SMEs) reflects industry risk, growth, and market conditions. Asset-based and DCF methods provide alternative calculations.
The Three Core Approaches to Business Valuation
While there are many specific valuation techniques, they all fall into three broad approaches: income-based, market-based, and asset-based. Understanding these approaches helps you grasp how professional valuers determine business value and which method is most appropriate for your situation.
In practice, professional valuers typically apply more than one approach and reconcile the results. This triangulation increases confidence in the final value conclusion and identifies any significant discrepancies that warrant further investigation.
Income-Based Valuation Methods
Income-based methods value a business based on its ability to generate future economic benefits. They are the most commonly used approaches for established, profitable businesses.
Capitalisation of Future Maintainable Earnings (CFME)
The CFME method divides normalised earnings by a capitalisation rate (or multiplies by a capitalisation multiple). For example, a business with $200,000 in normalised earnings and a 4x multiple would be valued at $800,000. The multiple reflects industry risk, growth prospects, and business quality.
Discounted Cash Flow (DCF)
DCF projects the business's future cash flows over a period (typically 5-10 years) and discounts them to present value using a risk-adjusted rate. A terminal value captures value beyond the projection period. DCF is ideal for businesses with variable or growing cash flows.
Market-Based Valuation Methods
Market-based methods determine value by comparing the business to similar businesses that have recently sold or are publicly traded.
Comparable Transactions
This method analyses the sale prices of similar businesses in the same industry and geography. Multiples derived from these transactions (typically based on revenue or EBITDA) are applied to your business. Availability of good comparable data is key to this method's accuracy.
Asset-Based Valuation Methods
Asset-based methods value the business by reference to its underlying assets, either at book value, fair market value, or liquidation value. These are most appropriate for asset-heavy businesses, holding companies, or businesses that are not generating profits.
The net asset value method adjusts all assets and liabilities to fair market value and calculates the difference. For going-concern businesses, goodwill (the value of the business above its tangible assets) is added. For businesses being wound down, a liquidation discount is applied.
Key Benefits
How It Works
1Gather Financials
Collect three years of profit and loss statements, balance sheets, and tax returns as the foundation for any valuation calculation.
2Normalise Earnings
Adjust for owner salary, personal expenses, one-off items, and non-arm's-length transactions to reveal true sustainable earnings.
3Select Method
Choose the appropriate method based on your business type, industry, profitability, and the purpose of the valuation.
4Apply & Cross-Check
Calculate value using your primary method and cross-check with at least one alternative approach to validate the result.
Common Questions About Business Valuation
People Also Ask
Australian small businesses typically trade at 2-4x EBITDA. The specific multiple depends on industry, growth rate, customer concentration, owner-dependency, and market conditions. Businesses with recurring revenue and low risk command higher multiples.
Explore valuation methods →Replace the actual owner's compensation with a market-rate salary for the role the owner performs. If the owner earns $50,000 but the market rate is $120,000, normalised earnings decrease by $70,000. If the owner earns $200,000 for a $120,000 role, normalised earnings increase by $80,000.
Get a professional valuation →Goodwill is the difference between the total business value and the fair market value of its identifiable tangible and intangible assets. It represents the business's reputation, customer relationships, market position, and other value that exists above the asset base.
Learn more →Related Guides
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