The world of business is ever-evolving, and as the average age of U.S. small business owners hovers around 55, many are contemplating the future of their ventures. Succession planning is on the minds of many, and a crucial aspect of this is understanding the value of one’s business. One popular method to determine this value is the multiplier method.
So, what exactly is the multiplier method? In essence, it involves taking either your revenues or profits and multiplying them by a factor derived from what similar businesses in your industry have sold for. For instance, in the restaurant industry, the multiplier is typically 0.41 of revenues. This means if a restaurant has revenues of a $1M, its valuation using the multiplier method would be $410K. On the other hand, financial service companies, including accounting firms and wealth planners, have a higher multiplier of 1.12. Hence, a million-dollar revenue would translate to a valuation of slightly over a million.
However, it’s essential to note that these multipliers can vary significantly across industries. For instance, car washes have a multiplier of almost 1.73, meaning a car wash with a million dollars in annual sales could be valued at nearly two million dollars.
While the multiplier method is based on revenues in the examples above, it can also be applied to profits. Every industry has its multipliers, and resources like BizBuySell can provide insights into the specific multipliers for various sectors.
But is the multiplier method the best way to value a business? Not always. It’s a popular and quick way to get a ballpark figure, especially when comparing it to other valuation methods. For instance, another common method involves determining the fair market value of your assets, subtracting liabilities, and estimating goodwill. The multiplier method can serve as a sanity check to ensure your valuation is in the right range.
The multiplier method shines when applied to businesses with a recurring revenue stream. For instance, accounting firms, with their steady clientele, are prime candidates. Similarly, car washes with consistent traffic, and cable companies with monthly subscribers can benefit from this method. The rationale is simple: if a business has a predictable and consistent revenue stream, the multiplier method can provide a more accurate valuation.
However, for businesses that don’t have such predictable revenues, like manufacturers, distributors, or even some retail stores, the multiplier method might not be the best fit. In such cases, valuing the business based on assets, minus liabilities, and adding some goodwill might be more appropriate.
For potential buyers using the multiplier method, it’s crucial to remember that this method is rooted in history. It’s based on past data, so ensuring the reliability of this data is paramount. Moreover, one must be confident that past trends will continue. If a business had consistent revenues in the past, there’s no guarantee it will maintain the same in the future.
In conclusion, while the multiplier method is a valuable tool in the business valuation toolkit, it’s not a one-size-fits-all solution. Depending on the nature of the business, its revenue streams, and industry standards, other valuation methods might be more appropriate. However, as a quick check or starting point, the multiplier method can provide invaluable insights. As with all business decisions, it’s essential to do thorough research, consult experts, and consider multiple valuation methods to get the most accurate picture of a business’s worth.