Business Valuation – 5 Mistakes Small Companies and Startups Should Avoid

Business valuation is the process of enumerating your company’s total worth. It calculates your business’ value using a specified formula, taking into account your assets, earnings, industry, debts, and losses. There are different small business valuation methods you can use.

Here are some of the common mistakes that small companies and startups should avoid during business valuations.

1. Setting unrealistic expectations

Being too optimistic about your company’s value can eventually be harmful. This can lead you to set the bar too high on your future earnings or cash flows. Moreover, it can give you inaccurate insights on your consumers’ behaviors, potential sales, and rate of return. As a result, you might let down your buyers and investors after leading them on with unrealistic promises and expectations.

On the other hand, you should also know that your business’ valuation doesn’t stay valid for long. Small businesses and startups tend to grow rapidly, so their cash flows can be erratic. Dealing with inaccurate figures can cause conflicts among owners, potential investors, and buyers. In fact, your company’s value can change due to factors like market conditions, sales trends, and new regulations. Consider learning how to value a small business based on revenue to help you cope with the rapid changes in your company.

2. Using the wrong approach

With so many valuation methods available, you might be confused as to which one you should use. Make sure that you choose a business valuation formula that suits your type of business or its level of returns or cash flow stability. Likewise, you should avoid mixing incompatible methods.

For one, avoid applying traditional business valuation methods to value startup companies. These methods simply won’t work on startups as they tend to be limited.

For example, startups can’t use asset-based valuations because they have no “assets” to assess in the first place. This is because a startup’s value is found in the founders’ ideas and development—not in its assets.

3. Trying to do your own valuation

Business valuation is a complex process that involves using various formulas and methods. Without proper guidance, many entrepreneurs can easily commit mistakes while trying to do their own valuations. For one, they might fail to normalize earnings by adjusting certain factors such as non-market rate revenues and expenses.

To make sure you are on the right track, consider investing in the right tools for business valuation, such as Equitest. It is an online valuation platform that helps small businesses and startup companies compute their worth. It simplifies complex calculations and valuation processes in just a few clicks.

You might also want to hire experts or those with backgrounds on business valuation. This is where human resources degree importance and relevance. Having a HR professional can help you vet who are the right people to do the job of conducting the business valuation for your company.

4. Over-reliance on unsubstantiated multiples

Small business valuation multiples vary over time from business to business within an industry. You can’t apply the same high-level multiples across the board to any company in the same sector. If you do so, you will end up overlooking other factors such as capital expenditure requirements, income taxes, or working capital to support your business’ growth. Over-reliance on substantiated multiples can result in misguided decisions.

When conducting business valuation, you must factor in your business’ growth, competition, operational efficiencies, location, and debt levels. Do proper research instead of relying on rough estimates. Keep your financial information in order to make sure you can accurately compute your company’s value.

5. Failing to assess potential risks

Risks can arise in any type of business—more so with small businesses and startups. A careful examination of these potential risks is a key factor in any business valuation. Failing to recognize and assess these risks can lead to inaccurate business valuation.

Consider using the Risk Factor Summation Method to give you a better understanding of how risks can impact your business’ value. It evaluates the average pre-money valuation of pre-revenue startups or small businesses to help you get a profitable “exit” from your investment.

Knowing your true worth

A study by Kaufmann shows that only 78% of startups and small businesses survive the first year. These figures tend to become smaller as more years go by. Many businesses claim that the main cause of their decline is lack of enough funds to support their operations.

Learn how to control your finances better through business valuation. This helps you get a better grasp on your assets and evaluate your business’ performance. With proper valuations, you can attract more investments for your small business or startup and plan better strategies for the future.