What are the different business valuation multiples?
Table of contents
- What are the different business valuation multiples?
- The multiple approaches let you value different companies with the same financial metrics.
- What is the multiples approach?
- How does the multiples approach work?
- What are the multiples used in the analysis?
- What are the different types of multiples used in valuation?
- For the most part, P/E ratios tend to fall between the following:
- Business Valuation Multiple Conclusion:
The multiple approaches let you value different companies with the same financial metrics.
A business appraisal is advantageous for many reasons. Knowing your company’s value will ensure that you, as a business owner, have the confidence to make the most appropriate decision for your situation. Understanding the different multiples used in a business valuation can help you achieve your goals.
When pursuing a potential sale, a business valuation will most definitely be helpful. Still, there are other reasons why seeking an appraisal to determine your small business’s worth would be beneficial.
You can also read, what is a business valuation?
Regardless of the reason for the valuation, expert appraisers at BA FL|GA|HI use a variety of approaches to estimate your business’ worth through a valuation. Some of those methods include conducting an asset valuation, executing an entry cost assessment, or conducting a market analysis.
One way, however, that appraisers commonly assess a company’s true economic worth is by executing the multiples analysis approach.
What is the multiples approach?
One of the oldest techniques in valuation, the multiples analysis approach evolved from the idea that similar assets tend to sell at similar prices. As a result, to carry out this approach, analysts rely on a standard financial metric to value similar companies.
We refer to this metric as a multiple. It is simply a ratio that we can calculate by dividing the market value of an asset by a particular item on the company’s financial statement.
The reasoning is that an analyst applying the multiples technique will assume that the ratio used applies to various companies within the same industry or business.
How does the multiples approach work?
Analysts conducting this valuation will first have to identify companies or assets with business structures or operations like the company seeking the valuation.
Then, the analyst will conduct a valuation of each identified company. The key is to convert each company’s market value into a standardized weight or metric.
We then apply a valuation multiple to the statistic to notice any variation between the companies or assets being compared.
What are the multiples used in the analysis?
The multiples, often presented in the form of a ratio, are tools for calculating the value of a company.
Multiples rely on various statistics, like earnings, price per share, value per share, or sales, to determine the market value.
What are the different types of multiples used in valuation?
There are two main types of multiples used by analysts.
- Equity multiples: This metric focuses on specific parts of a company, like share prices or earnings. An analyst would generally use these multiples if they want to understand how an investment would multiply over the years. As a result, these metrics help measure the total return investors would expect from their investments. One type of equity multiple often used by analysts when conducting valuations is the P/E ratio.
- P/E ratio: Expert valuators use this method to inform forecasted return growth through prior profits. A higher P/E ratio would be used for companies with high forecasted return growth or repeat earnings. For example, if the P/E ratio of three is used for a company that makes $500,000 in post-tax earnings, the enterprise would be valued at $1,500,000.
Although the calculations used to reach the valuation are straightforward, expert valuators like those at BA FL|GA|HI can suggest the correct number for your P/E ratio.
This is because the P/E ratio often varies from business to business. Startups, for example, often have high ratios because they are high-growth companies. On the other hand, more established companies like auto shops or local insurance agencies experience less drastic growth and will likely have a lower P/E ratio.
Depending on your business and its growth projections, your P/E ratio could be between one and ten.
For the most part, P/E ratios tend to fall between the following:
- 1-2.5 for small businesses
- 2-7 for enterprises earning up to $500,000 annually.
- 3-10 for small firms with profits exceeding $1,000,000 annually.
- Enterprise value multiples: These multiples tend to be used for companies engaging in mergers and acquisitions if the debt of a particular company entering the deal would impact the new market value. The most common enterprise value multiples are the EV/Sales.
- EV/Sales: This metric compares a company’s enterprise value to its annual sales. As a result, it measures how much it would cost to acquire a company’s worth in terms of its sales while considering its equity and debt.
A lower EV/sales multiple suggests that a company may be a more attractive investment due to being relatively undervalued.
Business Valuation Multiple Conclusion:
Business valuations are a dynamic process that helps assess the actual value of companies. Whether you need financing to expand your operations or plan to enter a merger deal, an independent business valuation utilizing the multiples approach may benefit your business plan.
You can also read, what is a business valuation professional?
Competent and experienced valuators, like those at BA FL|GA|HI, can explain the best ways to present your business using the right business valuation multiples.
Connect with our team of expert valuators today to make progress toward determining your company’s actual economic value.