Guide
Business valuation methods: which one a US buyer uses
Updated
Several methods get taught and one of them decides most private sale prices. Knowing which is which stops you preparing the wrong evidence for the negotiation you are actually going to have.
The three approaches, in the SBA's own words
The Small Business Administration names three. An income approach, which looks at projected revenue and accounts for potential risks. A market approach, which compares your business to other similar businesses that have recently sold. And an assets approach, which subtracts total business liabilities from the total value of all assets.
The calculator on this page is the market approach in its shortest form: a multiple of earnings, drawn from what comparable businesses actually sold for. It is quick, it is what buyers quote in, and it is only as good as the comparables behind the multiple, which is why the source and date of that multiple matter more than the arithmetic.
Why the earnings figure matters more than the multiple
Owners argue about the multiple and lose money on the earnings. A half-turn of multiple on $500,000 of EBITDA is $250,000; a rejected add-back of $100,000 is $550,000 at 5.5x.
The multiple is set by the market and your size. The earnings figure is set by evidence you control, and it is where preparation actually pays.
What the IRS does with the same question
Nothing that helps you price a sale, and it is worth knowing why: the tax authority's interest is in what happened, not what a business might fetch. The IRS treats an asset sale as a transfer of separate assets rather than of one business, sorted into capital assets, depreciable property used in the business, real property used in the business, and property held for sale to customers.
Each is taxed differently. Capital assets produce capital gain or loss; depreciable and real property held longer than a year produce section 1231 treatment; inventory produces ordinary income. Both buyer and seller must then use the residual method to allocate the consideration across them.
That allocation is negotiated, and it moves your after-tax proceeds without changing the headline price by a cent. It deserves as much attention as the multiple and usually gets none.
When the asset approach is the right one
Where the business is worth more dead than alive: property-heavy, plant-heavy or loss-making operations whose earnings do not justify the balance sheet. It sets a floor rather than a price.
It also matters in a share sale of a company holding significant surplus assets, because a buyer paying an earnings multiple will argue those assets are separate. Knowing which of your assets are trading and which are surplus is worth doing before the first meeting.