Contents:
- Brief Answer
- Why This Method Dominates
- Common Mistakes to Avoid
- What the Pros Know
- An Expert Quote
- When This Method Applies and When It Doesn’t
- FAQ
- What multiple applies to a typical small service business?
- Why do some industries command much higher multiples?
- Does a business with declining revenue still use a standard multiple?
- Should I hire a broker or negotiate a sale price myself?
- How much do add-backs typically increase a valuation?
- Do buyers ever pay above the standard industry multiple?
- Conclusion
Medieval merchants valued a shop by its yearly takings centuries before spreadsheets or valuation software existed, using essentially the same earnings-based logic that industry multiples formalize today.
Brief Answer
Most small businesses are valued using an industry-specific multiple applied to seller’s discretionary earnings, typically ranging from 2x to 4x for service businesses and higher for businesses with recurring revenue.
Why This Method Dominates
Earnings-based multiples give buyers a straightforward way to compare businesses across an industry, since a multiple reflects both typical risk and growth expectations for that specific sector.
Common Mistakes to Avoid
Owners frequently apply a multiple they saw quoted for a much larger company, missing that small businesses under $1 million in revenue typically command noticeably lower multiples than mid-market companies. Others neglect to properly calculate seller’s discretionary earnings, undervaluing or overvaluing their business by skipping legitimate add-backs.
What the Pros Know
Experienced brokers recommend getting a professional valuation before listing, since a credible number backed by proper documentation attracts serious buyers faster than an owner’s optimistic guess.
An Expert Quote
“Buyers discount any valuation that isn’t backed by clean, three-year financial records,” notes business appraiser Corbin Achebe. “The multiple only matters once the earnings figure underneath it is trustworthy.”
When This Method Applies and When It Doesn’t
Multiples work well for established businesses with consistent earnings history, though early-stage or rapidly scaling companies often get valued differently, based more on revenue growth trajectory than trailing profit.
FAQ
What multiple applies to a typical small service business?
Service businesses like landscaping or consulting typically see multiples of 2x to 3x seller’s discretionary earnings, depending on client concentration and owner involvement.
Why do some industries command much higher multiples?
Industries with recurring, contract-based revenue and low owner dependency, like software or subscription services, typically command higher multiples due to lower perceived risk.
Does a business with declining revenue still use a standard multiple?
Declining businesses typically see reduced multiples or get valued on asset value alone, since buyers price in the risk of a shrinking customer base.
Should I hire a broker or negotiate a sale price myself?
A broker typically pays for themselves through a higher final sale price and smoother negotiation, especially for owners without prior experience selling a business.
How much do add-backs typically increase a valuation?
Legitimate add-backs like owner salary and personal expenses run through the business can meaningfully raise adjusted earnings, sometimes increasing overall valuation by 20% or more once properly documented.
Do buyers ever pay above the standard industry multiple?
Yes, strategic buyers seeking specific assets, customer lists, or market entry sometimes pay a premium above typical multiples when the acquisition serves a larger strategic purpose.
Conclusion
Industry multiples give both buyers and sellers a shared starting language for negotiation, though the underlying earnings figure and business-specific risk factors ultimately determine where within that range a sale actually lands.
