Business valuation

Why it matters

For most owners, the business is their largest asset and the one they understand least as an asset. Knowing roughly what it is worth, and why, turns strategy into something concrete: reducing owner dependence, locking in recurring revenue and cleaning up the books are not just good practice, they are measurable increases in value. It also prevents two costly errors: selling for far less than the business is worth because you did not prepare, or holding out for a figure no buyer will ever pay.

The main methods and when each applies

Three approaches cover most small-business situations. The earnings-based approach capitalises sustainable profit using a multiple; it suits established, profitable businesses and is the method buyers and brokers use most. The asset-based approach values the business at the fair value of its assets less liabilities; it suits asset-heavy businesses, or businesses whose earnings do not justify more than their assets are worth. The discounted cash flow approach projects future cash flows and discounts them to today’s value; it suits businesses with strong, predictable growth, but its answer is only as good as the forecasts behind it.

In practice a valuer or buyer will often run two methods and compare. If a business’s earnings value is below its net asset value, the assets set the floor. Industry rules of thumb, such as a percentage of annual revenue or a dollar figure per customer, exist in many sectors; they are useful as a sanity check but not as a method.

Normalise the earnings first

The profit in your accounts is prepared for tax, not for valuation. Normalising means adjusting it to show what a new owner could sustainably expect. Add back genuinely one-off costs, personal expenses run through the business and above-market owner salaries; deduct a market salary for the work the owner actually does, any revenue that will not recur, and costs a new owner would have to incur, such as rent if you own the premises personally. For small owner-operated businesses, buyers often look at seller’s discretionary earnings, which is profit plus the owner’s salary and benefits, and apply a lower multiple to that figure.

Normalisation is where most negotiation happens. Sellers want to add back everything; buyers want to deduct everything. Keeping clean books with personal spending kept out of the business for at least two to three years before a sale removes most of the argument.

• Add back: one-off legal costs, personal expenses, excess owner pay, non-recurring write-offs.
• Deduct: a market salary for the owner’s role, lost one-off revenue, costs a new owner would face.
• Use at least three years of figures and weight recent years more heavily.
• Document every adjustment; buyers will test each one.

What moves the multiple

The multiple is where risk and growth live. Small owner-operated businesses in Australia commonly change hands at low single-digit multiples of normalised earnings, and larger businesses with management teams and recurring revenue attract higher ones. The exact range varies widely by industry, size, and the state of the market, so treat any figure you hear as illustrative and ask a broker or valuer who knows your sector.

What you can control is where in the range you land. Buyers pay more for revenue that recurs under contract, for a customer base where no single client dominates, for a business that runs without the owner, for clean documented systems and for a track record of steady growth. They pay less for owner dependence, customer concentration, messy books, key-person risk and declining or volatile earnings.

Use valuation as a management tool

A valuation is most useful two to five years before you need one. Estimate the business’s value today, identify which drivers are weakest, and build the next few years’ strategy around fixing them. Reducing a dominant customer from 40 per cent of revenue to 15 per cent, or handing day-to-day operations to a manager, can lift the multiple as much as several years of profit growth. Revisit the estimate annually. SMBH Consulting works with owners on exactly this kind of value-building plan when the goal is a sale, a succession or outside investment.

How to estimate what your business is worth

1. Gather three years of financials Profit and loss, balance sheet, tax returns and BAS lodgements, reconciled to bank statements.
2. Normalise the earnings Document every add-back and deduction; arrive at sustainable earnings a new owner would see.
3. Choose the method Earnings multiple for most profitable businesses; check against net assets as a floor.
4. Research the multiple range Ask brokers, look at comparable sales in your industry and size band, and treat all figures as ranges.
5. Score your value drivers Owner dependence, recurring revenue, customer concentration, growth, records. Place yourself in the range honestly.
6. Adjust for assets and debt Add surplus cash or assets a buyer receives; deduct debt a buyer assumes.
7. Get a professional view A broker, accountant or registered valuer for any decision that depends on the number.

Real-world example

An Adelaide landscaping business estimates its value

Greenway Landscapes has revenue of $2.1 million and reported profit of $240,000. The owner, Sam, works full time as operations manager and draws $60,000; a market salary for that role would be about $120,000. The accounts also carry $35,000 of personal vehicle and travel costs and a one-off $28,000 legal dispute. Normalised earnings become $240,000 + $35,000 + $28,000 − $60,000 (the shortfall in market salary) = $243,000.

Sam’s broker suggests that businesses like his in the current market tend to change hands within a low single-digit range of normalised earnings, and that his customer concentration, with one council contract at 35 per cent of revenue, and his personal involvement in every quote place him toward the lower end. At an illustrative 2.5 times, the business is worth about $600,000, plus around $90,000 of surplus equipment he would include, less a $70,000 equipment loan, so roughly $620,000. Sam decides not to sell yet. Over two years he hires an estimator, wins commercial maintenance contracts that bring the council to 18 per cent of revenue and keeps personal costs out of the books. With normalised earnings of $290,000 and a stronger position in the range, his broker’s next estimate is around $900,000.

Common mistakes

• Valuing on effort or need What you invested or what you need to retire has no bearing on what a buyer will pay. Only future earnings and risk matter.
• Using the tax-return profit Unnormalised earnings understate or overstate value and invite dispute. Adjust and document.
• Quoting one multiple as fact Multiples are ranges that vary by industry, size and market. Anyone quoting a single figure without context is guessing.
• Ignoring owner dependence If the business is you, a buyer is purchasing a job with risk attached and will price it that way.
• Leaving it until the sale The value drivers take years to change. Start the valuation conversation well before you intend to exit.

KPIs to track

• Normalised earnings Sustainable annual profit after documented adjustments; the base of the valuation.
• Largest customer share of revenue Buyers get nervous above roughly ten to fifteen per cent. Track and reduce it over time.
• Recurring revenue share The proportion of revenue under contract or from reliable repeat customers. Higher supports a higher multiple.
• Owner hours in operations A proxy for owner dependence. Falling hours with stable results is a direct value driver.
• Three-year earnings trend Steady growth supports the top of the range; volatility pushes toward the bottom.

Frequently asked questions

What multiple should I use?

There is no single answer. Multiples vary by industry, size, growth, owner dependence and market conditions. Small owner-operated businesses typically attract lower multiples than larger businesses with management teams and recurring revenue. Ask a broker or valuer who sees transactions in your sector.

Is goodwill the same as business value?

Goodwill is the part of the price above the fair value of identifiable net assets; it represents customers, brand, systems and reputation. Business value is the total, including assets. Buyers pay for goodwill only when the earnings justify it.

Do I need a formal valuation?

For a sale, dispute, partner buy-out, family transfer or certain tax purposes, yes, from an appropriately qualified professional. For strategic planning, a well-reasoned estimate using the method above is usually enough.

How does debt affect the value?

The earnings multiple gives the value of the operating business. Debt a buyer takes on is deducted from what they pay for the equity; surplus cash or assets are added. Most small-business sales are structured debt-free and cash-free, with the seller clearing loans at completion.

Key takeaways

• A business is worth the future profits a buyer expects, adjusted for risk, not what you put in or need out.
• Normalise earnings and document every adjustment; clean books for several years remove most argument.
• Multiples are ranges that vary by industry and size; what you control is where in the range you land.
• Owner independence, recurring revenue and customer diversification are the most powerful value drivers.
• Start valuing the business years before you need to, and manage toward the number.