03 April 2025
How to value a business: step by step guide
6 minutes
There are several methods for valuing your business—each one considers different factors and may be more accurate than others depending on your company. Some methods consider only your assets and liabilities, while others prioritise profits and earnings potential or compare your business to others in the market.
There’s no designated “right” way to value a business. It depends on why you’re performing the valuation—to buy, sell, or invest in the company—and the specifics of the company itself. In this guide, we explain the six most common methods for valuing businesses, how each method is used and its pros and cons, and how to value a business in just four steps.
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6 methods for valuing a business:
1. Book value
Pros: quick and simple
Cons: doesn’t account for intangible assets or future earnings potential.
You can work out a company’s book value by subtracting any liabilities (both current and non-current) it owes from the total value of its assets (both current and non-current). Since a company’s book value is typically determined using historical data, the result usually offers a fair picture of its worth.
However, the book value method doesn’t account for intangible assets, such as intellectual property and patents. This means it doesn’t accurately represent the value of companies with valuable intellectual assets, like innovative technology companies. The book value method also doesn’t account for a company’s future earnings potential.
2. Times revenue
Pros: good for businesses with limited financial history
Cons: revenue isn’t a reliable predictor of profitability
The times revenue method considers a business’s revenue over a specified period, usually a year, and multiplies it by a number, usually between 0.5 and 2, specific to the company’s industry. Lower multipliers are usually used for industries experiencing slower growth, while higher ones are for industries expected to grow quickly.
The times revenue method can help value younger companies that don’t have much of a financial history, but it’s far from being the most reliable valuation method. This is because it doesn’t account for a company’s experiences or ability to produce profit—revenue doesn’t equal profit, and increasing revenue doesn’t mean a company’s profits will grow, too.
3. Earnings multiplier
Pros: Values a business based on its earnings potential
Cons: It reduces complex financial information to a single number
The earnings multiplier method values a business using its income or earnings. It’s also known as the price-to-earnings (P/E) ratio and measures a company’s share price relative to its earnings per share.
For public companies, you can calculate the price-to-earnings ratio by dividing their stock price by their earnings per share (EPS). For a private company, you’d need to look at the financials of similar public companies and use their EPS and stock price to calculate P/E.
P/E ratios are useful for comparing companies in similar industries or evaluating the same company at different time periods because they assess the relative value of company stocks. A high P/E ratio might signal that investors expect a company’s stock to grow quickly, or that the stock is overvalued, while a low P/E ratio could indicate that it’s undervalued. In other words, your company’s value is linked to its ability to produce future wealth.
4. Discounted cash flow (DCF)
Pros: very thorough, factors in major business considerations, and doesn’t require comparison with other companies.
Cons: the calculation is complex, and making wrong assumptions can lead to errors and inaccurate valuations.
This method uses a company’s projected future cash flows to determine its current market value. Unlike the earnings multiplier method, DCF considers factors such as inflation when calculating a company’s valuation. DCF can be a more reliable valuation method for investors because it values a business based on its ability to generate future cash flows for capital providers.
The basic principle behind DCF is quite simple: £1 today is worth more than a £1 tomorrow because of inflation, and because investing it today means you can make returns over time. So, DCF analysis aims to work out what your company’s future cash flows will be worth using your best cash flow forecast.
Then, using a discount rate, you’ll use a formula to calculate the “present value” of these cash flows—i.e., how much the investor would earn if they saved their money instead and collected interest on it. The discount rate is the expected interest rate the investor would have earned on their savings.
If DCF analysis reveals that your company’s value is greater than the invested amount, your business is considered a good investment. You can learn more about how to DCF here.
5. Market capitalisation
Pros: simple and reflects market value
Cons: can be biased towards past performance and may give overvalued stocks too much weight
A business’s market capitalisation is calculated simply by multiplying its total outstanding shares by its stock price. So, if a company’s stock trades at £20 per share and has 500,000 shares, its market capitalization is £10 million. Since market capitalisation is tied to a company’s stock price, the value changes throughout the trading day.
This valuation method is useful for vendors because it helps them evaluate risk; companies with a high market cap are typically stable but grow more slowly, while those with lower market caps are less stable but have a higher potential for growth.
6. Comparable analysis
Pros: widely used for public companies, helps you benchmark against a range of values
Cons: excludes company-specific information and relies on market perception
Also known as comparable company analysis, this method values a business by considering the metrics of one or more companies around the same size in the same industry. You might also consider how much similar businesses have sold for.
For this method, you’ll still need to use other valuation methods to calculate each competitor’s valuation. So you’d start by collecting all the available statistics you can for these competitors and then proceeding to determine their valuation. You’d then use the results as a relative valuation for the business you want to value.
How to value a business in just 4 steps:
The exact steps for valuing a business depend on the type of valuation method you choose. However, the general steps are:
1. Choosing the right valuation method.
To do this, it’s important to consider why you’re performing the valuation. If you’re looking to invest in a company, you might want to consider using multiple methods, such as DCF, market capitalism, and earnings multiplier.
If you’re looking to value your own company, you’d want to consider a method that offers a transparent, fair view of your business's value without undervaluing. For younger businesses with limited financial history, this might mean using the times revenue method, while ones with stable earnings may prefer the P/E ratio.
2. Collect the required financial records.
You’ll need the relevant document to calculate a company’s valuation, which usually includes balance sheets, profit and loss statements, tax filings, and any proprietary documents like licenses or patents.
3. Collect any relevant industry-specific data.
If you’re using a valuation method that includes a multiplier or analysis of similar companies, you’d need to collect the relevant data to perform the valuation. In the former case, this means either searching for your industry’s multiplier on the internet, or approaching a specialist like a business appraiser. In the latter case, this means first identifying similar companies and then collecting their financial records.
Even if you don’t use a valuation method that requires industry-specific insights—e.g., maybe you’re using the DCF method—it’s still helpful to consider how much other businesses are selling for in the industry.
4. Calculate the valuation.
Now that you’ve got everything you need, all that’s left is to calculate the company’s valuation using the method(s) you’ve chosen. Here are some sample calculations using:
- The P/E ratio. Let’s say a company’s stock trades at £50 and its earning per share is £2.5. This means its P/E/ ratio is 50/2.5 = 20. In other words, investors pay £20 for every £1 of earnings.
- Times revenue method. Let’s consider a small restaurant business with a revenue of £1 million per fiscal year and a revenue multiple of 2. Using the times revenue method, the company is valued at £2 million.
How to value a business quickly
The quickest way to value a business is usually the book value method; all you need to do is subtract its liabilities from its assets. The comparable analysis valuation method is also quite quick; all you need to do is to look at what companies similar to yours (in terms of size, revenue, industry, etc.) have recently sold for.
How many times profit is a business worth?
There’s no fixed multiple for valuing a business using its profit. Instead, you’ll need to figure out the multiple for businesses in your specific category. Multiples usually depend on the industry you’re in, the size, profitability, risk profile, and growth trajectory of your business, and other factors such as market conditions.
Summary: how to value a business
Different methods for valuing businesses prioritize distinct factors, such as profit, revenue, or comparable companies in the market. Each method has its respective pros and cons—e.g., although DCF analysis considers several factors specific to your company, making wrong assumptions could lead to an inaccurate valuation.
In contrast, although comparable analysis overlooks many company-specific factors, it can indicate how much the market is willing to pay for companies like yours.
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