How to analyse a business

Turnover tells you how busy a business is. Profit tells you what it is worth to an owner. The first job is to find the profit a new owner could expect, which is rarely the number on the tax return.

Valuers and buyers adjust the reported profit so it reflects the business, not the way the current owner runs it:

• Add back costs that won’t continue: one-off repairs, a legal dispute that has ended, personal expenses run through the business.
• Take out a fair wage for the work the owner does. If the owner works sixty hours a week for a small salary, a buyer has to pay someone to do that work.
• Allow for anything that will change on a sale, such as rent at market rates if the owner also owns the premises.

The result is often called adjusted or normalised profit. It is the number everything else rests on.

Two businesses with the same profit can be worth very different amounts. The difference is risk: how likely the profit is to continue once the owner has gone.

• Where does the money come from? Repeat customers and contracts are worth more than one-off jobs.
• How many customers matter? If one customer is a large share of sales, losing them would change everything.
• Which way is it heading? Three years of figures show whether the business is growing, holding or slipping.
• What could change it? A key supplier, a lease, a licence, a change in the market.

A buyer is paying for a business that keeps working without its founder. If the customers ring the owner’s mobile, the prices live in the owner’s head and the staff wait for the owner’s say, a large part of the value walks out the door on settlement day.

Written systems, a capable team and customer relationships held by the business rather than one person all make the earnings safer, and the business easier to sell.

• Equipment and vehicles: their age, condition and what must be replaced soon.
• Stock: how much is needed, and how much of what is on the shelf will actually sell.
• Working capital: the cash tied up between paying suppliers and being paid by customers.
• The lease: how long is left, the options to renew, and whether it can be passed to a buyer.

A valuation is not a formula applied in isolation. A Registered Business Valuer looks at what buyers have paid for similar businesses, then weighs this business’s earnings and risks against them. The aim is a figure grounded in the market, not a hope.

The honest answer is usually a range, with the reasons the price could sit at either end. Those reasons are the most useful part: they are the list of things to fix before you sell.