Small business owners that need to ascertain the value of their business often find themselves sorting through a range of confusing concepts and methods. A confusing process becomes more frustrating without an understanding of the key terms, like business comps or capitalization rate, that are employed in the business valuation field. Here are six of those terms defined to help make the process somewhat smoother.
- Business Comps: Business comps refer to the product of comparison between revenue and expense in the current year to that of the previous year.
- Capitalization Rate: More often called the cap rate, this is the net operating income of a business or property divided by the property value. The property value is what a certified business appraiser determines.
- Comparables Valuation: This is a common valuation method, not to be confused with comps valuation, where an appraiser uses the recent selling price of similar businesses in order to determine the value of their subject business. For example, if an Italian Restaurant in a similar neighborhood sells for two million, an appraiser could use that number to help pinpoint the value of an Italian Restaurant they are examining.
- Intangible Assets: The assets of a business obviously factor greatly into the results of business valuation. Intangible assets do not possess a physical form, yet still add measureable value to a business. Common examples include customer lists and intellectual property such as patents and trade secrets.
- Recast Financial Statements: Most small business owners manage their business with the goal of limiting their taxable income, or the reports of it at least. Recasting those statements refers to the adjustment of those statements to reflect the real cash flow of a company and its financial benefits to the owner.
- Working Capital: This is the money used to conduct daily business and is the funds that a business has readily available. Expenses accounted for by working capital are short term expenses, such as the rent for their commercial space or the wages of employees.
The tangle of considerations for business valuation are best left to the professional appraisers to completely sort out. However, with basic understanding, owners are better able to manage the results of the process. Hopefully, after reading these terms explained, the topic is more manageable.