The short answer
A professional business valuation report states what is being valued, for whom and as of what date, then works from the company's history and financials to a single conclusion of value. The core of it is four steps: normalizing the earnings, applying the income, market and asset approaches, reconciling them into one figure with any discounts explained, and bridging from the value of the business to the value of the owner's equity. A buyer, partner or lender reads it by testing each of those steps, and so should you.
Most owners see a valuation report once, at a moment that matters: a sale, a partner buyout, a buy-sell agreement, a succession plan, a loan tied to a purchase. The report runs to dozens of pages and the number is on one of them. Everything else is the argument for that number, and the people on the other side of the table will read the argument more carefully than the number.
This guide walks through what a report contains, in the order it appears, and explains what each part is for. It covers the standard of value, the normalization of earnings with a worked example, the three approaches and how they are weighed, discounts, the conclusion and the bridge from enterprise value to the owner's equity, the difference between a calculation and a conclusion of value, and how to read the whole document the way a buyer does. For the methods themselves, start with our guide to how to value a business.
The sections, in order
| Section | What it says | What a buyer checks |
|---|---|---|
| Engagement and scope | Who asked for the valuation, what interest is being valued (the whole company or a share), the valuation date, the purpose and the intended users | Whether the purpose matches theirs; whether the date is recent |
| Standard and premise of value | The definition of value used (usually fair market value) and whether the business is valued as a going concern | That the standard fits the use |
| Company and industry | History, ownership, products, customers, management, competition and the outlook for the industry and the economy | Concentration, owner dependence, anything the numbers do not show |
| Financial analysis | Three to five years of statements, trends and ratios, and the normalization schedule that turns reported earnings into economic earnings | Every add-back, line by line |
| Valuation approaches | The income, market and asset approaches, the methods used under each, and the inputs: forecasts, rates, multiples, comparable transactions | Growth assumptions, the discount rate, the comparables chosen |
| Reconciliation and discounts | How the approaches are weighed into one figure, and any discounts for lack of control or marketability, with the reasoning | Whether the weighting favors the highest result; whether discounts are supported |
| Conclusion of value | The enterprise value, the bridge to equity value (less debt, plus excess cash) and the final figure for the interest valued | What debt is deducted, what cash is called excess |
| Assumptions, limiting conditions and credentials | What the valuer relied on, what was not verified, the standards followed and the valuer's qualifications | The standards named, and what the valuer did not check |
Standard and premise of value
The standard of value is the definition the whole report rests on. The usual one is fair market value: the price at which the business would change hands between a willing buyer and a willing seller, neither under any compulsion and both with reasonable knowledge of the facts. That definition comes from IRS Revenue Ruling 59-60 and is used well beyond tax matters because it describes a hypothetical, arm's-length deal with no special buyer in mind.
Two other standards appear. Investment value is the value to one particular buyer, who may pay more because of savings or sales they can add; it explains why a strategic acquirer's offer can exceed fair market value. Liquidation value is what the assets would bring if the business stopped operating, orderly or forced. A report also states its premise, almost always that the company continues as a going concern. If the standard in the report does not match the use you have for it, the number may be right and still be the wrong number.
Normalizing the earnings
Tax returns and year-end statements are prepared to report income for tax and accounting purposes, which is a different job from showing what the business earns for a new owner. The valuer recasts the statements with normalization adjustments, and the resulting schedule is the single most examined page in the report. Common adjustments:
- Owner compensation. Replace what the owner actually takes with what it would cost to hire someone to do the job.
- Discretionary expenses. Remove personal vehicles, travel, memberships and family members on payroll who do not work in the business.
- One-time items. Add back a legal settlement, a move, a severance package, a bad-debt write-off; remove a one-time gain.
- Related-party rent. Adjust rent paid to a building the owner also owns up or down to a market rate.
- Non-operating items. Remove income and expenses from assets the business does not need to operate.
The figures below are hypothetical and rounded. A distribution company reports $1.4M of EBITDA.
| Adjustment | Amount | Support a buyer will ask for |
|---|---|---|
| Reported EBITDA | $1,400,000 | Tax returns and statements |
| Owner salary $420,000, market rate $220,000 | +$200,000 | Compensation survey or a comparable hire |
| Spouse on payroll, no active role | +$60,000 | Payroll records, role description |
| One-time legal settlement | +$90,000 | Settlement agreement |
| Vehicles, travel, memberships (personal) | +$70,000 | Ledger detail, receipts |
| Rent to the owner's building, $60,000 below market | -$60,000 | Market rent comparison |
| Warehouse manager hired to replace owner's second role | -$90,000 | Offer letter or job posting |
| Normalized EBITDA | $1,670,000 |
Two of the rows go the other way, which is what makes a schedule credible. A buyer who sees only add-backs assumes the rest were missed. Every row multiplies through the valuation: at a five-times multiple, the $60,000 spouse adjustment is worth $300,000, and a buyer who cannot verify it will remove it. Our guide to EBITDA-based valuation covers add-backs in more depth.
The three approaches
| Approach | Methods | Where it fits | What a buyer questions |
|---|---|---|---|
| Income | Capitalization of earnings for a steady business; discounted cash flow for one that is growing or changing | Companies whose value is their cash flow, which is most operating businesses | The growth in the forecast and the discount rate applied to it |
| Market | Multiples from sales of comparable private companies; sometimes from public companies, adjusted for size and risk | Industries with enough recorded transactions to compare against | Whether the comparables match on size, margin and geography |
| Asset | Each asset and liability restated to current value | Holding companies, asset-heavy businesses with thin earnings, and as a floor | Whether it misses the goodwill a profitable business carries |
A report applies each approach where it fits and explains why one was given more weight than another, or set aside. The explanation matters more than the arithmetic. If a service company with little in the way of assets is valued mainly on the asset approach, or the weighting lands on whichever approach produced the highest figure, a buyer will notice. The results from the approaches should also be close to each other; when they are far apart, the report should say why.
Discounts and premiums
When the interest being valued is less than the whole company, two adjustments may apply. A discount for lack of control recognizes that a minority owner cannot set pay, declare distributions or force a sale. A discount for lack of marketability recognizes that a share of a private company cannot be sold quickly or cheaply the way public stock can. Both are supported in the report by reference to published studies and by the specifics of the company: a buy-sell agreement that restricts transfers, for instance, supports a larger marketability discount.
Company-level risks show up here too, usually through the discount rate or the multiple rather than a separate discount. Customer concentration, dependence on the owner, a thin management team and an expiring lease all raise the return a buyer requires. Our posts on customer concentration and owner dependence cover the two that matter most in owner-led companies.
The conclusion, and the bridge to your equity
The conclusion of value reconciles the approaches into one figure for the operating business: the enterprise value. The owner does not receive the enterprise value. The report bridges from it to equity value by deducting the debt a buyer would require to be paid off and adding back cash above what the business needs to operate. Continuing the example, with hypothetical inputs:
| Step | Amount |
|---|---|
| Normalized EBITDA | $1,670,000 |
| Multiple concluded from the approaches (hypothetical) | 5.0x |
| Enterprise value | $8,350,000 |
| Less: line of credit and equipment notes | -$1,600,000 |
| Plus: cash above operating needs | +$300,000 |
| Equity value, 100% interest | $7,050,000 |
In a sale, the bridge is settled in the purchase agreement rather than the report, and it includes a working capital target that the report usually does not. Our guide to working capital in a business sale covers that piece. Run your own bridge below.
Enterprise value to equity value
Enter your figures to see enterprise value and equity value.
Our free business valuation calculator estimates the enterprise value from your earnings, industry and growth, and shows where it sits in your industry's range.
Calculation of value or conclusion of value
Professional standards recognize two levels of engagement, and the report says which one it is. In a calculation of value, the owner and the valuer agree in advance on the approaches and procedures to be applied, and the report presents the result of that limited work. It is faster and costs less, and it suits planning, an annual check on value, early sale preparation and many partner discussions. In a conclusion of value, the valuer applies all the procedures they judge necessary, considers all three approaches, and reaches an independent opinion. It is the level a buyer's advisors, a partner's attorney or a lender expect when the number will be relied on by someone across the table.
Our valuation professionals prepare both, performed to NACVA professional standards and quoted at a fixed price, and will say which level fits the use before the work starts. Our post on what drives the cost of a business valuation explains the difference in effort.
How to read your own report like a buyer
- Check the scope first. The interest valued, the date and the standard should match what you need the report for. A fair market value report will not tell you what a strategic buyer might pay.
- Read every add-back and ask what supports it. If you cannot point to a document for each row, a buyer will remove it, and the value with it.
- Test the forecast against history. Growth in the projection that the last three years do not support is the first thing a buyer's advisor will question.
- Look at the comparables. Are the companies in the market approach your size, your margin, your region? A multiple from larger or more profitable companies flatters the result.
- Check that the approaches agree. If one result is far from the others and carries most of the weight, read the reasoning twice.
- Follow the bridge. Confirm the debt deducted is complete and the cash called excess is truly surplus. In a sale, expect a working capital target on top.
- Read the limiting conditions. They tell you what the valuer did not verify, which is where a buyer's diligence will start.
In our sell-side work the report is read this way with the owner before it goes anywhere near a buyer, so the questions get answered in the data room instead of in the negotiation. Our post on M&A-ready financials covers the records that support the report.
Common mistakes
- Reading only the number. The other side reads the normalization schedule and the bridge. So should you.
- Add-backs without documents. The most common reason a valuation does not survive diligence.
- Only add-backs, no deductions. A schedule that only goes one way looks like advocacy.
- Using a report for a purpose it was not written for. The standard, date and interest valued all have to match the use.
- Confusing enterprise value with proceeds. Debt comes off, and in a sale the working capital adjustment, escrow and transaction costs come off too.
- Letting the report go stale. A valuation dated two years ago answers a question nobody is asking now. Our post on annual valuations covers how often to update.
Frequently asked questions
Why do buyers and lenders examine the add-backs so closely?
Because each one raises the earnings the value is based on, and the effect is multiplied. At a five-times multiple, a $60,000 adjustment is worth $300,000. Buyers and lenders accept add-backs that are documented, such as a settlement agreement or payroll records, and remove the rest, which lowers the value and the amount a lender will finance. A schedule with deductions as well as add-backs reads as more credible.
What is the difference between a calculation of value and a conclusion of value?
A calculation of value applies approaches and procedures the owner and valuer agreed in advance and reports the result of that limited work; it is faster, less costly and suited to planning and early preparation. A conclusion of value applies all the procedures the valuer judges necessary, considers all three approaches and reaches an independent opinion, the level expected when a buyer, partner or lender will rely on the number.
How often should a business valuation be updated?
Once a year for an owner who is managing toward a sale, a succession or a buy-sell agreement, and whenever something changes the business materially: a large customer won or lost, a new location, a change in ownership or management. A current valuation keeps a buy-sell agreement funded at the right level and shows whether the year's work moved the value, which is the point of tracking it.
Who should prepare a valuation report, and what standards apply?
A valuation professional who follows recognized professional standards, states them in the report, and is independent of the outcome. In the United States the standards most often cited are those of NACVA, the AICPA and USPAP. The report should name the standards followed, describe the valuer's qualifications, and list the assumptions and limiting conditions, so a reader can see what was and was not done.
What documents does a valuation require?
Three to five years of financial statements and tax returns, the current year to date, a debt schedule, aged receivables and payables, a fixed asset list, customer revenue by year, owner compensation and benefits, organizational documents and any buy-sell agreement, leases, major contracts and a management forecast if one exists. The valuer will also interview the owner and key managers about the business, its customers and its risks.
How long does a valuation take?
A calculation of value usually takes two to four weeks once the documents are in hand, and a conclusion of value four to eight weeks, depending on the company's complexity and how quickly questions are answered. The longest delays come from incomplete records, so gathering the documents above before the engagement starts is the surest way to shorten it. The valuation date can be set before the report is finished.
Get a report that holds up across the table
Our valuation professionals prepare calculations and conclusions of value to NACVA professional standards, at a fixed price quoted before the work starts, and walk the owner through the report the way a buyer will read it. If you are planning a sale, a partner buyout, a buy-sell agreement or a succession, the first conversation is free.
Want to know what a free estimate can and cannot tell you first? See how an online valuation calculator compares with a formal valuation.
