As the new year starts, many people will reset their budgets and plans for the new year. One of the biggest challenges in counting all assets is generally the value of the business itself. Many times, owners do not have an accurate or defined value of their business, and it could cost them. While valuations may not materially change your business, they can influence how you plan and operate in 2026. Knowing how much the value is versus how much you want it to be can change the way you grow the business.
Key Takeaways
- Many small business owners lack a clear, objective understanding of their company’s value, yet even a simplified valuation can act as a strategic tool to guide long-term planning, especially when the business functions as a retirement asset.
- A business valuation typically involves analyzing 3-5 years of financials to normalize earnings (EBITDA or SDE) by removing one-time or owner-specific expenses, and then applies industry market multiples from comparable business sales to estimate the company’s value.
- Although valuations require time and commitment, they provide clarity and flexibility by helping owners plan for retirement, prepare them for (often) involuntary exits (e.g., death, disability, or distress), and support critical situations like buy-sell agreements, legal matters, or a future sale.
Knowing Your Numbers
Most small business owners do not know how much their business is worth, even though most either directly or indirectly see their business as their retirement plan. Worse still, if something were to happen to a business owner and the company was forced to switch hands, how could there be any expectation of how much they would receive for the business? Perhaps the largest reason for the lack of knowledge is because knowing how much a business is worth requires the owner to know the numbers of the business.
Valuations do not need to be a 6-figure expense to get a hypothetical number you will never use. However, having a well-defined and factual value of your business is more of a good business strategy than it is simply receiving a number. Using an “emotional value” of the business, or a hunch of how much you think it is worth, may not be enough to start strategically planning around. Having a fair market value or fair value of your business can give you a more independent value and help realize if your expectations are the reality.
There are certainly, in my opinion, different levels of valuations necessary for different occasions. Unless an owner is actively attempting to sell the company, or there are legal proceedings involved, a scaled-down version of a business valuation could be more than acceptable. On top of this, I would argue that the common owner neglects the time required to work on the business itself, so even with a valuation there is not enough time to build a strategic plan for it. While that could be the case, understanding how most basic valuations work can help you understand the importance of knowing where your business is going.
How Valuations Work
I recently got three business valuations done for my grandfather’s business. Two were done by separate business valuation experts and one by my personal CPA, even though the process for all three valuations were generally the same. The process starts with gathering the financial documents, primarily any tax returns, P&Ls, Balance Sheets, etc. over the last 3-5 years. The rough goal is to get a paper-view of the business to determine how attractive it is. Especially for small businesses, the earnings (either EBITDA or SDE) over the last few years will be the important starting place.
Next, the process involves working backwards from EBITDA or SDE and addback anything that would not normally occur in “the average similar business”. This could include expenses like one-time charges for legal fees or major repairs. Owner perks could fall here as well, if there are personal vehicles, club dues, or salaries paid to non-working family members. Think about each major expense as if a new unrelated person owned the company. If they would not have the expense, then it likely should be added back into EBITDA. Some valuations may then average the recent years EBITDA (with addbacks) to reach a single “Real Number”.
This real number is the actual earnings of the business, independent of any personal adjustments of the owners. Once obtained, the process then finishes by multiplying that real number by the market multiple of the industry of the business. Similar to comparable comps in real estate transactions, the goal is to seek out recent sales of similar businesses and use that as a basis for valuation. While data for recent sales may not be the easiest to gather, the math is not overly complicated. The price that companies sell for divided by their real number is the multiple. The recent multiples used for your industry can be a very large factor of the true value of your company, currently. Work with a business broker or accountant to find out the general multiples comparable to your business.
Why A Valuation Is Important
Taking the time to go through these steps requires a level of commitment to achieve. As a result, there needs to be solid reasoning why it’s worth the time to get a valuation done. Perhaps the simplest reason possible is the flexibility and direction it gives the owner of the company. Assuming there will be a point where you will not work in the business (which will happen to 100% of owners), knowing how much the business value is will change how you think. Knowing you want $10 million to retire on but your business is only worth $2 million will change your priorities. Chances are, most owners simply don’t know how much they want, so how much they have becomes irrelevant.
While it could be true in the short term, once life hits it can become very detrimental. It is estimated that 50% of business exits are involuntary, meaning that owners are forced out of their company. This is usually due to one of the 5 D’s: death, divorce, disagreement, distress, or disability. If every other business owner is forced out of their business at an undesired time, there is little reason why valuing a business now is a bad idea. Preparing the business years before an actual exit year can be not only financially rewarding but comforting as well.
There are also specific use cases when a valuation is necessary. The most common examples would be for buy-sell agreements, lawsuits, or to put the business up for sale. Buy-sell agreements are a great planning tool to prepare for when one of the 5 D’s hits you or your business partners. Imagine arguing with the spouse of your deceased business partner about the value of your business. Instead, having a clearly defined valuation and process to continue valuing the company periodically can dramatically ease many emotional situations.
Valuations Can Be Useful
As business owners, good data about your business and personal finance can be critical to your success. Knowing how much the business is worth in today’s industry can help you make educated and informed decisions about what you will do. Understanding the process of a valuation can also change how you see the business, and the expenses inside of the business. Then comparing that to competitors and peers can help teach you how well your business is doing. Every owner will eventually need to leave the company, the question is more “how” will you leave it than anything else.
TC Falkner 