Many profitable small businesses in Australia are valued by capitalising their maintainable earnings: adjusted profit multiplied by a figure that reflects risk. Discounted cash flow suits changing businesses, net assets suits asset-heavy or low-profit ones, and market evidence is used as a cross-check. Rules of thumb are a rough guide only.
What is the short answer?
Many profitable small businesses in Australia are valued on their earnings. A valuer works out the profit the business can keep making, applies a multiple that reflects the risk, then checks the answer another way. Other methods suit businesses that are changing quickly, earn little, or hold mostly assets.
There is no single formula that fits every business. The Australian Government's guide to valuing your business says there is no one set valuation method and that several can be combined. The skill is choosing the method that suits the business and the evidence available.
How a profitable small business is usually valued
Fix the profit
Start from reported profit. Remove one-off items and private costs, and allow for the real cost of the owner's work.
Choose a supported multiple
It reflects risk and expected growth, and matches the profit measure used.
Multiply
Maintainable profit times the multiple gives the value of the operations.
Check it another way
Net assets, market evidence or a forecast, where the evidence allows.
Allow for debt and cash
What the owners receive is not the same as the value of the operations.
What are the main valuation methods?
There are five approaches you will hear about. Valuations typically use a main method and a cross-check.
| Method | In plain words | Usually fits |
|---|---|---|
| Capitalisation of earnings | Maintainable profit multiplied by a figure for risk | Established, profitable businesses with steady results |
| Discounted cash flow | Future cash flows forecast and converted to a value today | Businesses that are growing, changing or have reliable forecasts |
| Net assets | What the assets are worth, less the liabilities | Asset-heavy, low-profit or closing businesses |
| Market evidence | What similar businesses have sold for | A cross-check where good, comparable data exists |
| Rules of thumb | An industry shortcut, such as a multiple of sales | A rough sense check only |
The business decides the main method
Tap the description that fits the business.
Main methodCapitalisation of earningsMaintainable profit multiplied by a figure for risk.
Main methodDiscounted cash flowFuture cash flows forecast and converted to a value today.
Main methodNet assetsWhat the assets are worth, less the liabilities.
Main methodMarket evidence, usually as a cross-checkWhat similar businesses have sold for.
Main methodA rough sense check onlyA rule of thumb is never the valuation itself.
How does capitalisation of earnings work?
This is a method many small business valuations rely on. It is sometimes called the future maintainable earnings method.
It has two parts. The first is the earnings: the reported profit adjusted for items that will not continue, private expenses, and the real cost of the owner's work. The second is the multiple, also called a capitalisation rate, which reflects how risky those earnings are and how they are expected to grow. Lower risk supports a higher multiple.
The multiple should be explained and supported, not picked from a list. It needs to match the earnings measure used: a multiple of one kind of profit cannot be applied to another. Our guide to SDE and EBITDA explains why.
Capitalisation of earnings in one line
Maintainable earnings
Reported profit, less one-off items and private costs, after the real cost of the owner's work
Multiple
Reflects risk and expected growth. Lower risk supports a higher multiple. Must match the profit measure.
Value of the operations
Before debt and cash are allowed for
When is discounted cash flow used?
Discounted cash flow suits a business whose future will look different from its past. Think of a business in a growth phase, one about to lose or win a major contract, or one with a long-term project.
The valuer forecasts the cash the business will produce over several years, then converts it to a value today using a rate that reflects risk. The result is only as good as the forecast. Many small businesses have short records and no formal budgets, so their forecasts are hard to support. That is why this method is often a cross-check rather than the main approach.
Discounted cash flow in three moves
Forecast the cash
Several years of the cash the business is expected to produce.
Choose a rate for risk
The riskier the forecast, the higher the rate.
Convert to today
Each year's cash, plus a value for the years after the forecast, is discounted back to today. The result is only as good as the forecast.
When are net assets used?
A net assets valuation adds up what the business owns and deducts what it owes. It suits businesses where the assets, not the profit, carry the value: a property-holding entity, an investment company, or a business that earns little or is winding down.
For a profitable trading business, net assets can act as a reference point or floor rather than the answer. If the business earns well above a fair return on its assets, the extra value is goodwill, which an earnings method captures.
Where net assets fit
Assets carry the value
- ExamplesProperty-holding entity, investment company, a business earning little or winding down
- Net assets areOften the main answer
Profit carries the value
- ExamplesA trading business earning well above a fair return on its assets
- Net assets areA reference point or floor; the extra value is goodwill
How is market evidence used?
Market evidence means looking at what similar businesses have sold for. It is useful when the sales are genuinely comparable and the details are known.
The difficulty for small businesses is that sale prices are often private, and listings show asking prices, not final ones. Even when a price is known, the deal may have included stock, property or vendor finance, or the earnings figure may have been calculated differently. A valuer uses this evidence where it is available and relevant, and adjusts for the differences.
Before a sale price counts as evidence
Is the price real?
- A completed sale, not an asking price
- The final price is known
Is it the same thing?
- Stock, property and vendor finance identified
- Earnings measured the same way
- The business is genuinely comparable
What about rules of thumb?
Many industries have shortcuts, such as a multiple of weekly sales or annual fees. The Australian Government's guide notes that industries often develop their own rules and formulas.
They are quick, but they skip the questions that matter most. A rule of thumb does not know whether you work seventy hours a week, whether one customer provides half your sales, or whether last year included a one-off windfall. Treat any rule of thumb as a sense check, never as the valuation.
What a rule of thumb cannot see
A rule of thumb sees
- MeasureSales or fees, times an industry figure
- SpeedQuick
A valuation also asks
- OwnerDoes the owner work seventy hours a week?
- CustomersDoes one customer provide half the sales?
- Last yearDid it include a one-off windfall?
A worked example (hypothetical)
The figures below are made up to show how the steps fit together. The multiple of 3.0 is an assumption for the example, not a market figure for any industry.
Fixing the profit turns $310,000 of reported EBITDA into $270,000 of maintainable earnings
- Reported EBITDA$310,000
- Private expenses run through the business+$12,000
- One-off legal cost, not expected to recur+$18,000
- Owner's real cost: $110,000 market pay including super, less the $40,000 already in the accounts−$70,000
- Maintainable EBITDA$270,000
Scale starts above zero so the changes are visible. Totals are cut short.
Then apply the multiple
$270,000
Maintainable EBITDA
3.0
Assumed multiple, matched to EBITDA
$810,000
Value of the operations
The owners receive $700,000 after the loan and surplus cash
- Value of the operations$810,000
- Bank loan deducted−$150,000
- Surplus cash kept by the owners+$40,000
- Value of the shares$700,000
Scale starts above zero so the changes are visible. Totals are cut short.
In a real valuation each of these figures would be supported by the records, the multiple would be explained, and the answer would be checked another way.
What are the common mistakes?
Most errors come from the inputs, not the arithmetic. These are common ones.
Six common mistakes and what to do instead
Using revenue instead of profit
Value what the business keeps, not its sales
Adding back the owner's whole salary
Deduct a market cost for the owner's work
Calling recurring costs one-off
Keep any cost that turns up most years
Mixing earnings measures
Apply a multiple only to the profit figure it was built on
Forgetting debt and cash
Move from the value of the operations to what the owners receive. See enterprise value and equity value.
Relying on one good year
Use what the business can keep doing
For how these steps come together into a figure for your business, see how much is my business worth.
How can Valuo value my business?
Valuo offers two reports at fixed fees set by your annual revenue. A valuer makes the adjustments, chooses the method and reaches the conclusion. Software helps organise and check the numbers but never supplies a figure, a comparable sale or a multiple of its own.
The Business Value Report, from $995 + GST, is a streamlined assessment for your own decisions. It is reviewed by a valuer before it is issued but is not signed. The Professional Valuation Report, from $1,495 + GST, is a full independent valuation with normalisation adjustments explained, market evidence where available and relevant, and the valuer's signature. Businesses with revenue of $10 million or more receive a fixed fee quoted before any work starts.
- Get your fixed fee
- See every fee on the pricing page
Some businesses need a different approach. Healthcare practices are valued by Medival, and pre-profit or early-stage companies by Start-Up Valuations. For separation, our dedicated family law practice is Family Law Valuations. For disputes, restructures, related-party transfers and shareholder buyouts, see Oliver Group.
Questions
What is the most common way to value a small business?
For an established, profitable small business, the usual method is capitalisation of earnings. The valuer works out the profit the business can keep making, then applies a multiple that reflects its risk. The result is usually cross-checked another way.
What are maintainable earnings?
Maintainable earnings are the profit a business can reasonably keep producing under a new owner. They start from the reported profit, then remove one-off items and private costs and allow for the true cost of the owner's work. Each change needs a reason and a record.
When is a business valued on its assets instead of its profit?
An asset-based value suits a business that earns little or no profit, holds mainly property or investments, or may be closing. If a business earns a good return, its earnings usually support a higher value than its assets alone.
Are industry rules of thumb reliable?
They can give a rough sense of scale, but they ignore the details that make your business different, such as owner dependence, customer concentration and the quality of the records. Use them as a sense check, never as the valuation itself.
Can I value my own business?
You can work through the steps for a rough idea, and doing so is a useful way to understand what drives value. If someone else will rely on the figure, such as a buyer, lender or the ATO, an independent valuation is usually more appropriate. Your accountant or lawyer can tell you what your situation requires.
General educational information, not advice. Examples are hypothetical and do not value a real business. The right treatment depends on the purpose, the evidence and the agreed scope.