Using Rule-of-Thumb Guidelines to Estimate Business Value

By William Bruce

As a business broker and appraiser, I’m often asked what a business is worth.  The appraisal of privately held businesses is not an exact science but there are guidelines and rules-of-thumb that can be used for a close approximation of value.

Certain situations require a formal business appraisal including the larger merger-acquisition transactions, SBA loan applications, management performance tracking, estate planning, divorce — or the most dreaded of all — IRS issues.  After all, a professional, fully documented appraisal certainly takes the guesswork out of the situation.

However, what we’re talking about here is not a formal appraisal but rather the informal methods of quickly approximating the value of a business entity.  All of the guidelines we’ll quote are averages derived from hundreds of completed transactions reported to national and regional databases.

There are two methods of quickly approximating value: (1) applying a multiple to the cash flow of the business and (2) applying a percentage to the annual gross revenue of the business.

The most accurate of the two rules of thumb seeks to approximate the value of a business by applying a multiple to the company’s discretionary cash flow.  What is discretionary cash flow?  It is NOT the profit or loss that you show Uncle Sam on your tax return.  To put it delicately, almost all business owners run some expenses through the business that are not — a’hem — absolutely necessary to the operation of the business.

Discretionary cash flow is the total cash that the business generates in a year that is available to the owner after deductions for only the necessary operating expenses.  Another way to define discretionary cash flow is that it is the “total owner’s benefit” derived from owning the business, regardless of how the owner takes the money out of the business.  It is the amount of cash left over after necessary expenses that is available for (1) owner’s remuneration, (2) return on investment and (3) debt service, if any.

Almost all privately held businesses will appraise for somewhere between one to five times discretionary cash flow (DCF).  Exactly where in this range that a specific business falls depends on the type of business.

From the database of completed transactions, we know that an air-conditioning/heating contractor, for example, is valued at approximately 2 times DCF.  A hardware store is worth about 3 times DCF.  Home health care is 4 times; janitorial services at 1.5 times; jewelry stores are 5 times.  Manufacturing operations will sell for between 3 to 5 times DCF depending on several factors.  Wholesale distributors in general are valued at around 2 times DCF.

A less accurate method of estimating the value of a business is to apply a percentage to the company’s annual gross revenue.  For example, a full service restaurant with a liquor license will be worth about 30% annual gross revenue if it’s earning the average bottom line profit for its peer group.

As other examples, dry cleaners will be worth approximately 75% of annual gross revenue  and weekly newspapers often sell for 100% of annual sales.

For franchise valuation guidelines, please see our article “What is a Franchise Really Worth.”

None of these appraisal guidelines include the value of any real estate or inventory on hand.  If the business owns real estate, the value of the realty should be added to the guideline result.  And inventory, at cost, should also be added to obtain the total estimated value of the business.

However, you as the owner, seller or buyer of the business are the final arbiter of what the business is worth to you. Remember, these guidelines are only averages.  And the guidelines certainly don’t take into account any special considerations or any future plans that an owner might have for the business.  What a particular business might be worth to you may be more or less than it’s worth to the next person who looks at it.

One final observation:  Interestingly, there is little geographic deviation in the value of businesses.  A gift shop in Alabama with similar financial performance is worth about the same as one in California.

Here are additional articles that might be of interest: How to Analyze a Business You’re Considering BuyingHow to Make a Written Offer to Buy a Business and How to Handle the Due Diligence Investigation When Buying a Business.

If you have questions about business valuation, please contact me at (251) 990-5934 or WilliamBruceOnline@gmail.com.  In addition to estimates of value using rule-of-thumb guidelines, we also do written, fully documented business appraisals for banks, business buyers and sellers, minority / majority partners and others.

In our practice, we also provide nationwide consulting services to individuals who are considering buying or selling a privately held business.

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William Bruce is a business broker, an Accredited Business Intermediary and a business appraiser.  His practice includes consultations nationally on matters involving business valuations and transfers.  He may be reached at (251) 990-5934 or by email at WilliamBruceOnline@gmail.com.  His business brokerage website may be viewed at www.WilliamBruce.net.

(C) Copyright William Bruce.  All rights reserved.

 

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About William Bruce

President, American Business Brokers Association / Business Broker and Accredited Business Intermediary assisting business buyers and sellers with the transfer of ownership / Author: How to Buy a Business.
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115 Responses to Using Rule-of-Thumb Guidelines to Estimate Business Value

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  2. Bob Veris says:

    Hey Will,

    You’re a rare find! I concur with your astute commentary. As a former Business Broker (who preferred to be called an Intermediary Consultant–since we worked both sides of the transaction, but never concurrently), I totally respect YOU but still don’t have a warm and fuzzy feeling about the low-end brokerage industry in general.

    My biggest issue was that “they” were always more interested in “getting listings” and not representing clients. Back in the day, we actually refused more “listing” than we took–simply because without full disclosure before-the-fact, there was nothing to talk about.

    We knew what we needed and if a prospective client couldn’t/wouldn’t comply, it made no sense to get involved. The notable exception was the owner who had established an asking price. We challenged him to demonstrate that his business had such worth. (In 20+ years, only one rose to our criteria–by producing a formal, third-party valuation.)

    For my money, any deal that did not have such a “tool” at hand, before attempting to go to the street, was a waste of time–surely precluding our involvement. In other words, every client that we represented (not “listed”) had to have (our firm mandate) a valuation–period. This when we started to charge a retainer–yes, even on the low-end. $5,000 was magic (put-up or shut-up) number for deals under $1 million, and $10-15,000 on larger transactions.

    Okay, you guessed it: huge-resistance initially…but logic prevailed…or we said goodbye. Granted, the main st (low-end) was not used to wall st tactics, but we knew our worth measured by our percentage of success. We didn’t work for common commissions … ours were success fees, and very well earned at that! Sorry, enough reminiscing…

    Good luck, my friend, stay well, and keep on helping “clients” on the low-end, and they should be constantly reminding every time they call upon you: “in the real world, you always deserve what you pay for” (or didn’t!).

    Best regards,
    Bob

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  4. Engagement Rings says:

    Very interesting topic , thanks for putting up.

  5. Paul Heinze says:

    4 14 11

    Greetings Bill:
    Nicely presented article!
    You’ve hit it squarely as to a value overview.
    I’ve been an Advisor, Business Broker and Appraiser for more than thirty years.
    It’s refreshing to see competence and experience presented so well.
    Thank you!
    Paul

  6. Paul, thanks so much for your kind words. Where are you located?

  7. Terrific post. It’s a real, real shame more entrepreneurs don’t understand this.

    An interesting note for entrepreneurs: all of the methods discussed above involve multiplying your earnings by some other number(s). Zero times any other number is zero. Therefore, if you have no earnings, your business’s value is zero (plus any valuable assets you may hold, like real estate).

    Good ideas, sweat and tears, ambition and potential are literally worthless from a financial perspective. I’ll say it again: if your revenue is ZERO, your firm value is ZERO. If you’re going to appear intelligent in conversation with investors, you MUST understand how firm value is really created.

  8. Pingback: What is Business Goodwill? | William Bruce on Business: A Discussion

  9. Steve says:

    What is the multiplier for gross revenue on an automotive shop?

  10. Steve, thanks for dropping by the blog. Auto repair shops are valued at 35% to 45% of annual revenue plus inventory at cost. Or another more accurate guidleine is 1 to 2.5 times discretionary earnings (adjusted cash flow) plus inventory for businesses with discretionary earning below $100K, and 3 times discretionary earnings for businesses over $100K in earnings.

    Hope this helps. Let me know if you need assistance in valuing a business.

    Best wishes,

    ~William

  11. redheadmama says:

    How about an online business? I have an opportunity to buy an online pet retail business that is basically a one-person operation. Average profits for the last five years are 300k, with expenses of 50k. Assets estimated under 10k. It’s such a simple set-up that I’m having trouble finding a good reliable valuation for it, and I’m not sure what to offer her.

  12. The rule-of-thumb valuation range for e-commerce sites is 2.5 to 4 times seller’s discretionary earnings (cash flow). Where in this range a particular business falls depends on the market trends, the particular company’s trends (growing or declining) and the willingness of the seller to finance a portion of the investment, among other factors.

  13. jimhankmom12 says:

    Is there a tried and true formula for determining discretionary earnings?

    She wants to owner finance.

  14. Discretionary earnings, also know as owner’s cash flow is computed as follows:

    To the profit or loss shown on the business tax return, add
    1. Owner’s W-2 salary (if any)
    2. Any non-cash deductions (eg: depreciation, amortization)
    3. Any owner’s perks listed in expenses that are not necessary operating expenses of the business (eg: vacations charged to the business, cars, etc.)
    4. Any one time repair or other expense that will not likely recur
    5. Any interest expense

    The result is discretionary earnings. The definition of discretionary earnings is that amount of cash left over after only the necessary operating expenses of the business have been paid that is available for (1) owner’s remuneration, (2) return on investment and (3) debt service, if any.

    Hope this helps.

    ~William

  15. Steve says:

    William,

    Could you tell me what the multiplier for cash flow is for a mail, pack and shipping franchise? What about a percentage of gross sales also.

    Thanks

  16. Steve, the guidelines for a pack and ship store are:

    (1) 40 to 45 percent of annual sales
    (2) 2 to 3 times discretioanry earnings (cash flow)

    Both of these guidelines include inventory. The multiple of discretionary earnings guideline carries more weight than the percentage of annual sales guideline.

    Best wishes,
    ~Will

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  18. William Kline, CFA says:

    Will,

    Thanks for sharing. Isn’t it appropriate to note that the add-backs you mention (real estate value + inventory) are only added back if they don’t contribute the cash flows from continuing operations? You should only add inventory if it is excess inventory. After all, inventory is part of working capital, which is a component of free cash flow that you use to estimate value. Likewise, if real estate is part of the production capacity of an organization, its value contributes to cash flow generation. It’s a nuance that a lot of clients miss.

    Regards,

    Bill

    • Bill:

      Thanks for visiting and commenting.

      We use the “Business Reference Guide” published yearly by Business Brokerage Press. The Guide is generally regarded as the most authoritative reference source for pricing guidelines for small to medium size privately held businesses. The Guide covers hundreds of business categories, literally from ice cream stands to manufacturing plants.

      The rule-of-thumb guidelines contained therein do not include inventory or real estate, unless specifically mentioned. The pricing guidelines are derived from closed transactions and industry experts.

      Inventory fluctuates greatly in some types of businesses (particualarly seasonally in some situations) so we can obtain a more accurate appraisal with a guideline exclusive of inventory, and then add the inventory value at the end. And to automatically include a real estate value in a guideline would distort the value of those businesses in leased locations. It is just more accurate to account for these two values separately.

      • William Kline, CFA says:

        Thanks Will. So all the transactions you’re using as a starting point omit those values. Makes sense for a quick and dirty value.

        Bill

      • Avinash says:

        A business with real estate should be valued as if the property is leased on market terms so that earnings are normalized. I believe it is only then can adding back the value of real estate would make sense to be comparable with other businesses which do not own real estate by pay for lease rent.

      • Avinash, thanks for dropping in. You are absolutely correct and this is a good point. I recently handled the sale of a manufacturing plant in which the business owner also owned the real estate, but wasn’t paying himself any rent. We imputed a market rent expense, and in recasting the profit and loss statement, this imputed rent expense became a deduction from cash flow.

  19. John Haynes says:

    Thanks dear old friend. I have planned to sell or close my busines when I turn 70. Two years hence. Your article has given me food for thought. Because Christian bookstores are trying to adapt to a new and only partially understood paradigm, I may just try to get someone to “rent to own” the store. What do you think?
    John

  20. John, it is GREAT to hear from you after all these years. Hope all is well.

    Even within a business niche area that is changing significantly, an ongoing business has value over and above its liquidation value, so I would advise trying to sell the business rather than closing.

    A rent to own sale, in my experience, is pretty risky. I think a better solution might be a sale in which you take a negotiated down payment, and finance the balance. You take a note payable from the buyer and retain a chattel mortgage on the furniture, fixtures, equipment, inventory and trade name of the business. A popular form of seller financing is a balloon note in which the payments are calculated on a 10 to 12 year amortization schedule, but a balloon payment of the entire balance is due in 3 to 5 years. This is explained in a 40-page booklet I’ve written on how to sell a business. I’m emailing you a copy of it.

    I would love to see you. Let’s get together and reminisce about the Auburn years. Let me know if you ever get down to the beach area here, and I’ll call the next time I’m in Atlanta.

    Best wishes,
    ~Will

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  22. David says:

    Will,

    Very interesting site, thank you very much for the useful information. I have been trying to do a little research on how software companies would be valued. In 2007 my company was valued at 5.9M by an accounting firm, and has tripled its sales and customer base since. My issues with determining even a rough estimate are:
    1) How does consistent annual growth factor into the valuation?
    2) My largest expense is salaries, of which I could cut 15% without affecting productivity.
    3) I know we are on pace for a record year, and are introducing new revenue streams which will cause a larger increase.

    Am I struggling because it is just the wrong time to consider selling?
    Would we be 2.5 to 4 times seller’s discretionary earnings?

    Thanks very much,

    David

    • Dave, thanks for dropping in. The latest guideline for software companies is “2 to 3 times revenue (trailing 12 months) plus inventory.” That’s about as strong as I’ve seen.

      Other comments in my reference sources are:

      “There is not ‘typical’ rule of thumb because individual software companies can have widely different cycles and growth phases. Classic measures focus on revenue amounts, consistency and growth, although revenue recognition policies vary and market conditions can change quickly.”

      “Usually no bank financing involved. Average deal is 50% liquid, 2 year employment agreement, 3 to 4 year non-compete. Most buyers are public and hi tech in order to leverage the purchase. 35% are international buyers.”

      Hope this helps. Call me at 251-626-4949 if you would like to discuss further.

  23. Brian says:

    Thank you for posting your article. I found it very helpful. Are there any multiplier guidelines for a manufacturer’s sales representative business in the heating and ventilation industry? The company is an independent sales office for the manufacturer. The cash flow appears to be steady each year but there are risks due to the contract with the manufacturer. There is a 30 day cancellation policy if the manufacturer decides to cancel the contract which is a major concern but this company has been a representative for over 30 years. The customer base has been built up over a long period of time in the heating and ventilation industry. It is only a 3 person office (2 sales people and 1 office manager) and it does require the business owner to have knowledge of the products along with doing majority of the sales. There are very few assets to the business. Would the owners typical sales salary be part of the actual expenses or would the salary of the owner always be included in the discretionary income? Please let me know your thoughts.
    Thank you for your time,
    Brian

    • Brian, thanks for your comments. I could not find in my various reference sources an appraisal guideline for a manufacturer’s rep. To answer the easy question first, one owner’s salary is included in the discretionary cash flow of the business. An appraiser would most likely take into account the one supplier / cancel clause issue and discount the value somewhat for this factor. I would think that somewhere around 2 times discretionary cash flow would be approximately the value of the company. In a situation like this, an “earn out” for most of the purchase price based on sales would be advised. That way, some of the risk of cancelation of the contract rightly remains with the sellers.

  24. Mark says:

    Hi Will,

    I am looking at a Play it Again Sports franchise for sale. It has been in business for 21 years. Owner is asking $700,000 plus another 130k in inventory. With some additional franchise requirements, the total investment is around $930,000. Owner claims $200,000 in “Cash Flow.”

    Is there a muliplier for sporting goods (50 percent resale and 50 percent new in this case)?

    Does his asking price sound reasonable or overvalued?

    Thx for your professionalism in this article!

    Mark

  25. Mark, we’re in luck. I found a specific valuation guideline for Play It Again Sports in our most authoritative resource, the Business Reference Guide by Business Brokerage Press. It is “40 to 45 percent of annual sales plus paid-for inventory.” I would add as a reality check that the resulting valuation using the above formula should be somewhere around 2.5 to 4 times discretionary cash flow. Just make sure the cash flow number is calculated correctly with the adjustments fully documented.

    • Mark Phillips says:

      Will,

      Thanks so much for your reply! I can’t thank you enough for finding the specific formula for the exact business I’m looking at purchasing!

      You have been so very helpful you have no idea!

      Mark

  26. John McKay says:

    Thank you for an informative article. Would you have any idea about a factor to use in evaluating a sole proprietorship farm equipment (grain drying) installation business? Thank you again! John McKay

    • John, I couldn’t find any valuation guideline for this business. I would think about 2.5 to 3.0 times discretionary cash flow would be appropriate. Just make sure the cash flow is computed correctly.

  27. What is the multiplier for owner’s discretionary cash flow for a commercial laundry (not laundramat)?

  28. I couldn’t find a guideline for commercial laundries. For dry cleaners, the rule-of-thumb is 70% of annual revenue, or more accurately 2.5 to 3 times discretionary cash flow.

  29. Dave Hemmingsen says:

    William. Great article. I have started and sold a few businesses over my lifetime but never had this type of information at my fingertips. We own 75% of two successful pawn shops / gun stores and two Express Tax Service businesses that my son, 25% owner, would like to purchase from us. They have lots of cash flow and lots of inventory and are growing steady in this horrible economy. How do they value up?

    • Dave, the guidelines for pawn shops are (1) 40 to 70% of annual sales plus inventory, or (2) 2 to 5 times descretionary earnings including inventory. That’s an unusually wide range with quality of inventory, location, growing or declining revenue, and amount of “money on the street” being factors influencing where within this range a specific business falls.

      I couldn’t find a specific guideline for Express Tax Service, but I did find one for Liberty Tax Service, which I think would be comparable. It is 45 to 50% of annual revenue.

      If you need a written appraisal, let me know.

  30. Farid Rajkotwala says:

    Thanks in advance for the very insightful article and any response you are able to provide!

    What kind of multiplier would you say there is for an apparel / novelties screen-printer? Would it be considered a light manufacturing plant (3x)? One I’m looking at has a multi-platform automatic machine and manual machines as well as some embroidery so it is a mid-large size custom-apparel printer (also do other clothing, hats, novelties, etc) that involve the same technology.

    Having a real difficult time coming up with a true value for this and breaking out discretionary earnings entirely based on their Income Statements and claim to put money in many places which I do not know how to verify for accuracy.

    It seems their growth has been very minimal the past few years based on the Income Statements, but they spend next to nothing on advertising and claim they have been happy with what the business turns out at the moment… Have been in business 15 years with customer growth early on, and now stable/consistent customer base…. and they are looking to get out to go into retirement in Central America.

    • Farid, the valuation guidelines for silk screen printing are (1) 40 to 45% of annual sales plus inventory or (2) 2.5 to 3 times descretionary earnings including inventory, with the multiple of descretionary earnings carrying more weight. Any add-backs used to compute descretionary earnings need to be documented by cancelled check or other reasonable documentation.

  31. Steve says:

    Great article, it has been very informative. I’m thinking about buying a local taxi company that has been in business for years. What formula would you recommend for a taxi business? Also what % of gross sales on average would you expect to see as net income?

    Thank you in advance!

  32. Steve, thanks for dropping in. The latest I can find on valuing taxi companies is 4 time EBITDA plus the value of the vehicles. EBITDA is earnings before interest, taxes, depreciation and amortization. I couldn’t find anything on percentage profit on gross. Hope this helps.

    • Mark Phillips says:

      Hi William, I am looking at a business for sale. It is a box and packaging business. He is asking 400k. Annual Gross income is $320k. Cash flow is reported to be roughly 115k per year. He is throwing in 2 delivery vehicles. However, he is a sole prop. and has no one else assisting him in the business. He’s a one man band. His vacations are relegated to 3 day weekends. He takes zero time off. Do I have a case that his business is over valued due to the business solely resting on his shoulders and if something were to happen to him (or me), the business essentially goes under, not to mention not having the ability to take any time off?

      My thinking is I have to figure the costs of hiring someone else to run this business on my behalf if I want to take time off or if something were to happen to me. Am I correct or off base?

      Thank you in advance sir.

      Mark

  33. Mark, I have several thoughts. First, it would be rare for a business to sell for more than its gross annual revenue. Second, the cash flow sounds high at 36% of gross annual revenue. This is not impossible for it to be this high, but you need a detailed and documented cash flow worksheet to make sure it has been computed correctly. And yes, you are right that you would need to take an employee’s salary out of the cash flow when you are projecting how you would run the business.

  34. Edward Brown says:

    William,
    The article has been very helpful along with all the blogs, especially your answer ‘s to them.
    I was wondering about the amount if you have a formula for valuing a DME (durable medical equipment) company on both multipliers (DCF) and gross income %.

    Thank you for your help,
    Edward

  35. Edward, thanks for visiting. For DMEs, we use 85% of annual sales plus inventory, or more accurately, 4 times DCF plus inventory. Hope this helps. ~Will

  36. Hey very interesting blog!

  37. Ben says:

    I like it when folks get together and share ideas. Great site, continue the
    good work!

  38. Nate Deskins says:

    William,

    What a fantastic article. Thanks for taking the time to write it! Would you have a formula you would recommend for finding the value of my IT company?

    Thanks so much for the help!

    Nate

    • Nate, I would need to know a little more about the company. Let me know what type IT company it is and I’ll see what I can find.

      • Nate Deskins says:

        Thanks for such a quick reply! We offer computer and network support for companies that don’t have a full time IT staff. We are not web designers, software developers, or strictly consultants.

        Thanks again

      • I understand. Let me get to the office in the morning and see what I can find by way of valuation formulas.

      • Nate, the Business Reference Guide, our most authoritative reference, gives a valuation formula for “Computer Services” as “55 percent of annual sales, plus fixtures, equipment and inventory.” Under a second category labeled “”Computer Consulting” the guideline is “50 to 65 percent of annual sales plus inventory.” Hope this helps.

  39. Nate Deskins says:

    That’s incredibly helpful, thanks so much! Is there a DCF multiplier available?

    Thanks again for all the help

  40. Jim Scarlett says:

    Will,

    I have been reading through your various comments on valuations and find them very helpful. I am approaching retirement and would like to sell my business to my son and his colleague. Our business would best be described as combination mfg rep/wholesale distribution. We sell machine tools on a commission basis plus have profit centers in used machinery, technical service and commodity supply items. The company is 45 years old and 40 of those were serving the housing related trades with our machine tools. With the nasty recession just now ending, how can I best determine a earnings period which best represents the earning potential and what should the multiple be? Thanks.

    • Jim, the Business Reference Guide gives the folloiwng valuation guidelines for “Wholesale Distribution in General” = 65% of annual sales plus inventory or 2.75 times SDE. It’s a tough call on a business like yours that has taken a hit during the recession. In a distress sale, an arm’s lenght buyer would base the value on the last three years, and the seller would most likely take it. However, in your case and with your history, I would average the results of 2004, 2005 and 2006 with the last three years in an attempt to hit an acceptable value.

  41. Fernando says:

    Thanks for your article! How much do you think could be the multiplier for a residential Real Estate office with 10 agents representing buyers, sellers, tenants and landlords.
    Thanks for your time.
    Best Regards

    • Fernando: the Business Reference Guide gives the following for a real estate office:
      1. 2 times SDE; may require earnout
      2. 33% of annual sales.

      Hope this helps.

    • Mark Phillips says:

      William, I too sincerely appreciate all of the information you have provided! Your blog is outstanding! I am in light discussions with a seller of an internet based sports business. He has a website that sells flag football plays to coaches, as well as some flag football related products such as cones, flags, wristbands (cutters) with the plays, etc. His listing says he grosses 120k and nets 60k, although the financial statement shows more of a 105k gross and a 48k net. He is including 4k in assets. He is currently asking 150k for this business, which takes him 1.5 hours a day to successfully operate (4 years old). His website is very professional and I don’t think he is a bad guy.

      Any idea what this business is really worth? Is there extra value in this business due to the very brief amount of time it takes him to operate? It seems too high to me, but maybe I am wrong?

      Thank you William,

      Mark

  42. The latest valuation information on E-Commerce websites states that they are worth approximately 30% of annual sales (from tax returns!) including inventory at cost, or 2.5 to 4 times seller’s discretionary earnings including inventory. The multiple of discretionary earnings is the more authoritative of the two formulas. The fact that little time is sometimes involved in management is one of the attractions of this type of business and is factored into the above formulas, which are averages of actual closed transactions.

  43. Wayne Cooke says:

    Hi Will,

    Interesting and informative, my question is; I have a carpet cleaning business I am considering selling, could you point me in the right direction, as I am at a loss to what I would list or sell it for, I don’t want to overprice but at the same time would like to be able to have a reason or formula to how I come up with a figure?

    Thanks for your info.

    Regards
    Wayne

    • Wayne, the two valuation formulas for carpet cleaning are 50 to 55 percent of annual revenue or 1.8 times discretionary cash flow. The multiple of cash flow carries more weight than the percentage of revenue. Good luck with the sale.

  44. Caroline says:

    Hi William –
    I am interested in purchasing a luxury restroom company. The company currently does $1 million in revenue, with $200 to 250K profit. They have $600k in equipment and very few employees. Most of the equipment is paid off. Any idea what type of formula I would use in evaluating them?

    thank you
    Caroline

    • Caroline, I couldn’t find a specific guideline for this, so in this case, I think 2.5 to 3 times discretionary cash flow (correctly computed) would be in the ballpark. The formula would include the equipment which should be paid off by the seller at closing unless you agree to assume the remaining debt and deduct the assumed debt from the acquisition price. Hope this helps.

  45. John Cassidey says:

    Happy New Year William,
    What would DCF value be for a wholesale/retail liquor store in Ms.? Gross Sales $1.3K, gross profit 23%?
    John

    • John, the most authoritative resource I have gives two guidelines for “Liquor/Package Stores.” The first is 40 to 45 percent of annual sales plus inventory. The second is 2.5 to 3 times sellers discretionary earnings plus inventory. Appraisers and business buyers will place more credence on the second guideline.

  46. Theodora C. says:

    Hello William,

    Your article has helped to shed some light on valuation for me, although I am still a bit up in the air. I am starting a lingerie line and I design them myself. I need to pitch investors to enable me raise capital for the factory work and marketing. I am in Nigeria. I would appreciate some more help, thank you!

    • Theodora, unfortunately this issue is out of my field of expertise. My experience is in valuing existing, on-going business entities. A start-up is a different animal. Good luck in your project. I hope to be reading about your success in the business press!

  47. Adam says:

    Hi William,

    Thank you for your thoughts on this topic. They are articulate and informative. What do you think of a mailing house with $2.5mill in revenue, $430 EBITDA asking $800K plus machinery (an additional $250K)?

    Kind regards,
    Adam

  48. Adam, I couldn’t find a rule-of-thumb for valuing a mailing house / service, but I would think about 2 to 3 times EBITDA would be about right, including machinery.

  49. Kevin Cain says:

    Hi William. I have been in the health care business and understand valuations there but am considering a bar/restaurant situation and am wondering about valuations. What I have is fairly varied….of course the method depends on the type of business. e.g. 25%-50% avg gross sales; 1 to 5 times DCF; 3 times owner compensation; cap rates of 20% to 100%.
    What is your general rule of thumb?

    I am curious about your comment that it doesn’t differ by state. Is that really true? I’m looking at a place in Texas.
    Is the “Business Reference Guide” available to the general public? Would I be able to purchase that?
    Thanks for your thoughts.
    Regards,
    Kevin

  50. Bernadine says:

    Excellent, what a blog it is! This website provides useful information to us, keep it up.

  51. John says:

    Hi William, I own a youth sports summer camp business and hold events at colleges/universities across the U.S. each year. I also provide year round clinics and travel teams. My 2012 gross revenue was $720K and my EBITDA was $170K. I expect continued growth ($825 gross revenue and $200K EBITDA projected for 2013). Hoping to find a value for my business in order to sell all or part of it. Any help would be appreciated. Thanks! John

    • John, thanks for dropping in. I couldn’t find a published valuation rule of thumb for your type of business (as you might imagine!), so we have to fall back on judgement.

      I would think the value of your business would most likely fall in the range of 3 to 4 times a properly calculated EBITDA plus the value of any realty included in the sale. This is versus a most likely 2 to 3 times discretionary cash flow. Hope this helps.

  52. Alvin says:

    It’s hard to come by well-informed people on this topic, however, you seem like you know what you’re talking
    about! Thanks

  53. Jeff says:

    Thanks for sharing your insight. As you know often it is not what the owner wants, or what the buyer intends to spend, but what the bank will lend. Having a quick guide to evaluate a deal is valuable.

    • Jeff, thanks for visiting and for your comment. Your observation is “right on” as to the fact that financing many times determines the price of a business. Business sales in which seller financing is a component sell for 18% more, on average, than businesses without it.

  54. Adam_MB says:

    HI WIlliam

    Thanks for the helpful Blog. I’m looking to purchase a specialty outdoor sporting goods retailer (mountaineering, hiking, paddling, etc.). They have four locations, with gross sales around $1.8M, inventory around $500k. With this channel being in a general decline due to competition from Big Box and eCom, the owner doesn’t have many options for selling. Considering it’s a fixer upper, what kind of valuation should I expect?

    • Adam, thanks for dropping in. My reference sources give a valuation formula for Sporting Good Stores of 25% of annual sales plus inventory at cost.

      My reference also essentially restates what you have said: “Declining profitability due to ability of customers to comparison shop online.” The above valuation formula takes into account this negative aspect.

      You might also want to check the trade association at http://www.snga.org.

      Good luck with the purchase.

  55. Tom says:

    When coming up with a value of a company how do you address long term debt in the sales price?

    • Tom, the appraisal guidelines discussed here assume that all assets of the company will be delivered to the purchaser free and clear of any and all encumbrances. If the buyer assumes existing debt, that is considered as part of the purchase price. For example, lets say a business is changing hands for a total consideration of $500,000. If the buyer is assuming $100,000 of existing debt, then the seller would be due $400,000 at closing. The seller is still getting total consideration of $500,000 because he’s being relieved of the $100,000 existing obligation.

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  57. Curious One says:

    I am interested in your thoughts about the value of a fully operational, fully established, fully staffed, smoothly running Papa Murphy’s “take n’ bake” pizza franchise where the owner’s DCF (after all other expenses aka overhead/COGS/marketing/labor/fees/etc.) is ~ $160K per year. How would one value such an enterprise?

    • We’re in luck. I found a valuation formula specifically for Papa Murphy’s franchises. It’s 35 to 40 percent of annual sales plus inventory for resale at cost. Of course, this valuation has to be supported by the discretionary cash flow of the business.

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  60. Todd says:

    Excellent articles and resource. Will definitely recommend to others. What is the value for a home health business based upon annual gross revenue. Thanks.

    • Todd, thanks for visiting. For “Home Health Care – Care Giving” the guideline I’ve found is 50% of annual sales. But remember, this valuation must be supported by earnings.

      For “Home Health Care – Equipment and Supplies” the guideline is 85% of annual sales plus inventory.

      Hope this helps.

  61. Maria says:

    Can’t seem to find an answer to this problem. I have been working for a sole owner of a home based catering company, it has doubled business since I have been involved. We are looking to move and expand by starting a commercial kitchen. Full partnership with both of us coming in with $30,000.00 for start up. With me also buying in to established business. I would estimate the business grosses about 75-100,000 a year before any deductions. All equipment stove, refrigerator stays in her household. We would essentially be starting from scratch. But she has the client list and history. What would be a fair way to establish market value.

    • An on-going catering business is worth 35 to 40 percent of annual revenue, assuming discretionary cash flow will support this number. In a start-up, the business will be worth only the total of its tangible assets.

  62. Derek says:

    Hi William,
    Thank you for this very informative blog.
    I am getting ready to purchase the dental laboratory that I have worked for over the last 12 years. Although this business has been in the black since day one I am having a hard time valuing it because of the unpredictable and uncontrollable profit margins (narrow customer base) and evolving industry. This business is dependent on the owner working it. I am thinking 1xDCF because of the small size and blue sky. Do you have any input on this? For simple math lets say total discretionary cash flow is 100k

    • Derek, my most authoritative resource guide for dental labs gives three rules of thumb:

      1. 45% of annual sales plus inventory
      2. 1 times SDE plus equipment and inventory
      3. 2 times SDE includes equipment and inventory.

      When the sales volume and SDE are variable, I average the last three years.

      Hope this helps. If you need representation, let me know. We frequently represent buyers in a transaction.

  63. Pingback: What and Who are Business Brokers? | William Bruce on Business: A Discussion

  64. jt says:

    Great info and many thanks for your continued responses. I recently recieved an unsolicited offer for my business and was hoping for some valuation advice. I own a summer seasonal guided tour company and retail store. We have exclusive use permits, very little competition, and have been seeing 25% growth for the last 3 years. Based on existing demand, we just acquired two more use permits that will add 30 to 40% to our revenue, but haven’t had the time to show their potential cash flow. I was not considering selling the business for the next 5-10 years, so I haven’t been grooming the business for a sale … quite the opposite in fact. Any thoughts or valuation advice?

  65. Scott says:

    Hello William,
    The information you have provided is very helpful. Do you have any data on the valuation metrics for a company specializing in Wholesale & Retail, Turf & Irrigation Supplies for Golf Courses and Residential. Annual revenues north of $10 million.

    Thanks for your time.

    Regards,
    Scott

    • Scott:

      “Wholesale/Distribution – In General” in the Business Reference Guide has three valuations guidelines: (1) 65 percent of annual sales plus inventory, (2) 2.75 times sellers discretionary earnings plus inventory and (3) 3 times EBITDA.

      “Retail Businesses – In General” from the same source is 30 to 35 percent of annual sales plus inventory or 1.5 to 2 times sellers discretionary earnings plus inventory.

      None of these guidelines include real estate, cash on hand or accounts receivable. You would need to appraise the two operations separately (retail vs. wholesale) and then add them together for a total valuation.

      Your total gross volume is of a size that would attract a lot of interest in today’s market.

      • Scott says:

        William-Do you have any input on valuation rule of thumb for Hotel Franchising Companies such as Intercontinental Hotel Group, Hilton etc. on to some of the smaller lesser known Hotel Franchising Companies? Thanks for any input you can provide.

        Regards,
        Scott

      • Scott, unfortunately I couldn’t find any guidance on hotel franchisors. I did find three valuation guidelines for individual hotels / motels: (1) 250% of annual revenue, (2) 8 times discretionary earnings and (3) 8 to 10 times EBITDA.

      • Mark Phillips says:

        Bruce,

        I own a security guard company. It’s a service based business with a pretty consistent recurring revenue model as most of my contracts are continuous with my clients. A few one off contracts such as an event or concert do occur but 99% of the revenue is ongoing.

        Can you advise the industry norm as to how a security guard company is valued?

        Thank you sir.

        Mark

      • Mark, the valuation guidelines for “Guard Services” are 30% of annual sales or 3 times discretionary earnings. The additional comments in my reference source are that non-union companies are worth more and if guards are paid as 1099 contractors, the business is worth less. Hope this helps.

  66. B says:

    Lots of great information here. Thank you! Do you have any guidelines for a digital / social media marketing agency with revenue under $1m? Mostly recurring revenue from monthly retainers for on-going services, but no long-term contracts.

    • I couldn’t find anything specifically for digital or social media marketing agencies. As close as I could get was “Advertising Agencies” which are quoted at “50 percent of annual revenue (billings).” Hope this helps.

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  68. Scott A says:

    Hello William,

    As per B above – this thread is a goldmine!

    What would you suggest as a rule of thumb for a Stamp Dealership? That would be a company that publishes catalog of stamps and buys and sells stamps.

    Thanks.

    • Scott:

      Thanks for your kind words.

      I couldn’t find anything in my reference sources on stamp dealerships or collectibles. The closest thing I could find were formulas for small specialty retail stores. Under this category there are two valuation formulas: 15 to 20% of annual sales plus inventory, or 1.8 to 2.2 times discretionary earnings plus inventory.

      Hope this helps.

  69. David Bindas says:

    William,
    Excellent blog with a ton of useful information here. What would be the value of a daycare center with SDE of about $140K and annual Sales of $550K?
    It comes with real-estate but the value is not disclosed. Can I check the property appraised value from the county’s property tax records to make an initial assesment of the valuation or should I get it appraised by a licensed appraiser?
    I calculated the valuation as (Real-estate value as per property records + 2*SDE + Vehicles&Furniture) but it’s much less than the asking price so I wonder if the property tax records is not a good place to check or the business is really over-priced.

    Thanks,
    -David

    • David:

      Many businesses that are offered for sale are significantly overpriced. It is one of the most frequent problems that I encounter.

      My most authoritative reference source gives two valuation formulas for day care centers: (1) 45 to 55 percent of annual sales and (2) 2 to 3 times SDE. The real property value should be added to both of these guidelines for a total value. Don’t add any value for furniture, fixtures or equipment as their value is accounted for within the valuation formulas.

      The local county’s records would be a good place to start for real estate value. I wouldn’t pay for a real estate appraisal unless you need it later after you determine that the seller is going to be ball park reasonable about a market based price for the business and property.

      Good luck on the project.

      ~William

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