Small Business Multiplier: A Guide for Retiring Baby Boomer Business Owners in California

January 23, 2023
Business valuations

Small Business Multiplier and valuing a business

Using a business multiplier for small businesses (ranging from 1x to 5x Seller Discretionary Earnings or SDE) is a quick way to determine your small business valuation and its worth.

As a California-based business owner preparing to retire, you may be asking yourself this question: “What’s my business worth?”

The business multiplier method calculates the value of a small business by multiplying the average annual earnings of the business by a specific multiplier, ranging from 1x to 5x.

In this post, we will provide a comprehensive guide on how the business multiplier method works for small businesses, its advantages and disadvantages, and how retiring baby boomer owners in California can use it to determine the value of their businesses.

Understanding the Business Multiplier for Small Businesses

The business multiplier method calculates the value of a small business by multiplying the average annual earnings of the business by a specific multiplier.

This multiplier is typically based on industry averages and can vary depending on factors such as the business’s size, profitability, and growth rate.

It is important to note that the multiplier valuation method is just one of the many methods available for determining the value of a small business in California.

Therefore, it is crucial to seek expert advice when valuing a small business and considering retirement options.

A business valuation professional can provide a more comprehensive analysis, considering unique or proprietary assets and the current economic climate.

How the Business Multiplier is Calculated

The calculation of the company valuation multiplier is relatively straightforward. The process involves the following steps:

Determine the financial metric to use: The financial metric used in the company valuation multiplier is typically market capitalization or enterprise value divided by one of the following: revenue, earnings, or cash flow.
Research the industry average multiplier: The next step is to research the industry average multiplier for companies in the same industry as the one being valued. This information can be found in industry reports or by consulting a business valuation expert.
Calculate the current multiplier: Once you have both the market capitalization and the enterprise value, and the financial metric, divide one by the other to determine the current multiplier of the company.
Project future financial performance: Using historical financial data, project the company’s future financial performance for the next period, such as the next fiscal year.
Apply the industry average multiplier: Take the projected future financial performance and multiply it by the industry average multiplier to estimate the company’s future value.

For example, if the company’s market capitalization is $5 million and the revenue is $1 million, the current multiplier is 5. If the projected revenue for the next fiscal year is $1.2 million, and the industry average multiplier is 5, the future value of the company would be $1.2 million x 5 = $6 million.

Calculation Example

An example calculation using the company valuation multiplier method for a manufacturing company in California:

Let’s assume the manufacturing company had an enterprise value of $1,000.000 and its profit is $400,000
According to industry reports, the average multiplier for manufacturing companies in California is 3x.

To calculate the current multiplier,

Take the enterprise value ($1,000,000) and divide it by the current profit ($400,000)
$1,000,000 / $400,000 = 2.5x

Therefore, based on this calculation, the current multiple of the manufacturing company is 2.5 times.

Next, let’s assume a $150,000 increase in profit for the next fiscal year. This brings a Projected Profit of ($400,000) Current + ($150,000) Project Increase Amount = ($650,000) Projected Profits For The Next Fiscal Year.

Now, apply the average industry multiple in this final valuation formula below:

Take the projected next year’s profit ($ 650,000), then multiply it by the average industry multiplier (3x), which equals the business valuation.

Formula: $650,000 x 3 = $1,950,000

With this calculation, we can determine the future value of the manufacturing business to be $1,950,000 by the next fiscal year.

Be aware, it’s essential to keep in mind that this is just a rough estimate, and other factors such as:

Size,
Profitability,
Growth rate,
The current economic climate of the business should also be taken into account.

Nonetheless, it’s also recommended to seek help from a professional when valuing a business. A business valuation expert can provide a more comprehensive analysis, considering all factors that might positively or negatively influence the business valuation of a small company.

Pros and Cons

The company valuation multiplier method has its pros and cons.

On the positive side, it’s easy to calculate and quickly determine your company’s worth. It also provides a market comparison to other similar businesses in the industry.

Nonetheless, it does have its boundaries.

With limitations, the company multiplier for small businesses doesn’t take into account any unique or proprietary assets a business may have, such as patents or trademarks.

Additionally, it doesn’t take into account the current economic climate in California, which can greatly affect the value of a business.

UCLA Director Jerry Nickelsburg

According to UCLA Anderson Forecast Director Jerry Nickelsburg.

Unlike the tech meltdown in 2001, when layoffs were concentrated among information technology jobs in the Bay Area, this year’s tech purging has had little effect on the California economy

Housing construction is an area where California is outpacing the rest of the country

Defense spending is also helping the California economy

UCLA Anderson Forecast Director Jerry Nickelsburg projected employment growth of 1.1% in 2023 and 1.2% in 2024 for California if the state does not go into recession, and employment growth of .5% in 2023 and 1.3% in 2024 if it does

In a positive economic environment, one can be optimistic about the buy-sell market, particularly in manufacturing and other industry sectors in California.

Multiplier Method: Profit Valuation Options

While the multiplier method for small businesses can provide a quick valuation option for retiring business owners in California, it’s essential to keep in mind that it’s just one of many methods for valuing earnings or income.

There are several other methods commonly used in addition to the business multiplier method for determining the value of a small business.

Profit Multiplier Valuation

This method of valuing a business is by multiplying the business’s net profit by a specific multiplier.

The net profit of a business is calculated by subtracting all of the business’s expenses from its revenues.

The specific multiplier used in profit multiplier valuation is typically based on industry averages and can vary depending on factors such as the business’s size, profitability, and growth rate.

The purpose of profit multiplier valuation is to arrive at a value for a business based on the profit it generates.

This method can be useful for businesses with a consistent and predictable net profit, as it is easy to calculate and understand. However, it is essential to note that it doesn’t take into account any unique or proprietary assets a business may have, such as patents or trademarks.

Additionally, it doesn’t take into account the current economic climate, which can greatly affect the value of a business.

Profit multiplier valuation is also known as the “earnings multiplier method” or the “price to earnings ratio method”. It is widely used in valuation and financial analysis. Still, it’s essential to use it in conjunction with other methods, such as discounted cash flow, to arrive at a more accurate valuation.

Formula & Calculations: Profit Multiplier Valuation

The calculation of profit multiplier valuation is relatively quick to apply. The process involves the following steps:

Step One: Determine the Net Profit of the Business

The net profit of a business is calculated by subtracting all of the business’s expenses (such as costs of goods sold, operating expenses, taxes, etc.) from its revenues. This will give you the business’s net profit for a specific period.

Step Two: Research the Industry Average Multiplier

The next step is to research the industry average multiplier for businesses in the same industry as the one being valued. This information can be found in industry reports or by consulting a business valuation expert.

Step Three: Multiply the Net Profit by the Industry Average Multiplier

Once you have both the net profit and the industry average multiplier, simply multiply the two to determine the value of your business. The resulting value is the estimated worth of the business.

For example, if the net profit of a business is $100,000 and the industry average multiplier is 3, the value of the business would be $100,000 x 3 = $300,000

Keep in mind to seek professional help from an expert to get the best appraisal for your company. Their advice can encompass multiple valuation methods tailored to your company’s specific situation. A clear business valuation is key to successfully selling your business now or in the future.

Discounted Cash Flow (DCF)

This method calculates the present value of the future cash flows that a business is expected to generate. The present value is calculated by discounting the future cash flows using a discount rate.

Seller Discretionary Earnings (SDE)

This method is used to value small businesses by adding back non-cash expenses and discretionary expenses to net income. It provides insight into the cash flow available to the business owner, but should be used with other methods and professional advice for a more accurate valuation.

A clear business valuation is key to successfully selling your business now or in the future.

Rogerson Business Services For Business Valuation Service

When determining the value of a small business in California, it is crucial to seek professional advice. A business valuation expert can provide a more comprehensive analysis, taking into account the company’s unique assets and current economic conditions. By considering all the factors and consulting an expert, retiring small business owners can make the most well-informed decision.

As you consider your options for retirement, it’s crucial not only to determine the value of your business but also to consider the different options available to you, such as selling the business, transferring it to a family member, or, sadly, the last undesirable option: closing it.

By considering all the factors, you can make the most informed decision for your business and your future.

Let’s say you are now considering exiting your small business ownership. To gain a better understanding, we recommend consulting with a certified broker and their professional team of advisors in California.

In brief, let’s dive in with some essential starting points to get you ready.

Is Now a Good Time To Sell My Business?

The current economic climate in California is favorable for selling and exiting a company. If you’re considering selling your manufacturing company, valuing it is a crucial first step.

The process of valuing a manufacturing business can be challenging, but you don’t need to struggle anymore. A business broker can help you navigate the process and sell your manufacturing company by following five simple steps.

The first step is to understand how manufacturing companies are valued. The most common method used to value a manufacturing company is the use of EBITDA multiples. EBITDA, or earnings before interest, taxes, depreciation, and amortization, is a measure of a company’s profitability. Manufacturing companies usually have market EBITDA margins, so their EBITDA multiples are usually similar to the average market multiples and sometimes higher than those of other industries.
The second step is to understand what factors will affect the value of your manufacturing company. The three most important factors are the company’s size, profitability, and growth potential.
The third step is to understand what buyers are looking for in a manufacturing company. The most important factors that buyers look for are the company’s size, profitability, and growth potential.
The fourth step is to find a Buyer who is willing to pay your asking price. The best way to find a Buyer is to hire a business broker.
The fifth and final step is to negotiate the sale price of your manufacturing company.

A smooth transition is important.

Remember that for a smooth transition, it is beneficial to seek the guidance of a business broker. Valuing a manufacturing company is not an exact science; however, by following these steps, you can obtain the best possible price for your company.

The most important aspect is to use a method that is suitable for your unique situation. Keep in mind that various factors can influence valuations, so it is crucial to be aware of all the factors that could affect the value of your company.

This is just a quick overview of how to value a manufacturing company. If you’re interested in learning more, our blog offers numerous resources.

References:

Do you have any questions about valuing a manufacturing company? Leave a comment below, and we’ll be happy to help!

Final Take: Business Multiplier for Small Company

As a retiring baby boomer business owner in California, understanding how the business multiplier valuation method works is crucial for a quick appraisal. By consulting an expert and evaluating all your options, you can make the most informed decision when determining the value of your business and planning your retirement.

Contact Rogerson Business Services to help you with more information today!

With a manufacturing business broker by your side, we are confident that you will sell your manufacturing company for the highest price.

If you are considering valuing and selling your manufacturing company with annual revenue between $1,000,000 and $50,000,000 within six to twelve months, contact Andrew Rogerson, a certified business broker based in Sacramento, California. Call Toll-Free at (844) 414-9700 or email him at support@rogersonbusinessservices.com, covering the whole state of California.

Go to the next article: Part of the What’s my business worth series ->