Selling your business is one of the most significant financial transactions of your life. Whether you are aiming for a $100M exit or maximizing your return on investment, understanding business valuation is crucial.

However, not all valuations are created equal. Depending on who is performing the valuation—and the purpose behind it—the numbers can vary dramatically. Independent appraisers, investment bankers, and tax professionals all use different methods and benchmarks.

In this article, we will break down the key components of business valuation, explore different valuation approaches, and explain why the number on paper may not always reflect the actual market value of your business.

1. Tax Valuation vs. Broker/Investment Banker Valuation: What’s the Difference?

The purpose of a valuation plays a significant role in determining the final number. Here is how tax valuations differ from broker or investment banker valuations:

Tax Valuation

• Used for IRS-related transactions such as estate planning, gifting, and equity transactions.
• Generally conservative, emphasizing compliance over market potential.
• Often follows prescribed formulas that do not account for market trends or strategic synergies.

For more details on tax-related financial planning, read our guide on tax returns.

Broker/Investment Banker Valuation

• Focuses on maximizing market value for a sale.
• Considers market conditions, buyer demand, and strategic positioning.
• Uses forward-looking financial models such as revenue growth, synergies, and industry trends.

Key Takeaway: A tax valuation determines what your business is worth to the IRS, but it may not reflect what a buyer is willing to pay. Understanding the difference helps align your valuation strategy.

2. The Three Main Approaches to Business Valuation

There are three primary business valuation methods, each with its strengths and limitations:

1. Asset-Based Approach

• Values a business based on its net assets (assets minus liabilities).
• Commonly used for asset-heavy industries such as manufacturing, equipment, and real estate.
• Does not fully capture intangible assets like brand equity or intellectual property.

2. Income-Based Approach

• Evaluates the business’s ability to generate future cash flows.
• Uses models like Discounted Cash Flow (DCF) and Capitalization of Earnings.
• Ideal for businesses with predictable revenue streams.

3. Market-Based Approach

• Compares your business to similar companies that have recently sold.
• Relies on industry multiples such as revenue or EBITDA multiples.
• Useful for businesses in competitive industries with comparable transactions.

For additional insights, read our guide on forecasting with inflation.

3. The Discount for Lack of Marketability (DLOM): Why Your Business Might Be Worth Less on Paper

Even if your business is thriving, it may be subject to a Discount for Lack of Marketability (DLOM)—a downward adjustment applied to privately held businesses.

Why?

• Unlike publicly traded stocks, private companies are harder to sell quickly.
• Buyers demand a discount to compensate for illiquidity and risk.
• The discount is often significant, sometimes exceeding 35 percent for small businesses or startups.

Key Takeaway: DLOM plays a major role in valuations for tax and estate planning purposes. Understanding its application can help set realistic expectations.

4. Why Paper Valuations Do Not Always Match Market Valuations

Market Dynamics

• Valuation models rely on assumptions, while the real market is driven by buyer competition, economic trends, and investor sentiment.
• If multiple buyers compete for a business, the price may exceed the calculated valuation.

Strategic Value

• Buyers may pay a premium if the business offers market expansion, proprietary technology, or a strong customer base.

Emotional Factors

• In rare cases, buyers may overpay due to personal or strategic motivations.

For more details, see our post on how inflation impacts business valuations.

5. What This Means for Business Owners

• Know Your Valuation: Work with investment bankers and brokers to obtain an accurate, market-driven valuation.
• Boost Financial Diligence: Buyers want clean financial records and reliable forecasts.
• Be Prepared to Negotiate: Understanding key value drivers in an industry helps justify pricing with supporting financial data.

Final Thoughts

Business valuation is both an art and a science. While formulas provide a structured framework, market forces ultimately determine the selling price.

By understanding different valuation methods, market factors, and buyer motivations, business owners can position themselves for maximum value and a successful sale.

For additional insights on business finance, visit our business services page.