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Using Market Approaches to Estimate Business Valuation | RISR Encyclopedia for Financial Advisors working with Business Owners Using Market Approaches to Estimate Business Valuation
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Market Approach to Valuation

✨ In summary

The Market Approach uses past transaction data from comparable companies to estimate business value.

RISR references benchmark valuation multiples for earnings and revenue based on the industry and size of a client's business to apply the market Approach to business valuation.

Market Approach Overview

Under Market Approaches to estimating business valuation, valuation multiples are applied to a business's earnings or revenue to estimate valuation.

Valuation multiples are ratios between market value and financial benchmarks like earnings and revenue used to estimate business valuation. 

  • When a businesses are sold, the transactions can be used as reference to estimate the value of comparable businesses within that industry
  • To make these reference transactions more practical during valuation exercises, ratios between market value and financial benchmarks like earnings and revenue are calculated and aggregated across these historic transactions
  • This creates a set of "valuation multiples" that are specific to each industry
  • In many industries, as a business grows in size, the valuation multiples they earn increase since they are seen as less risky
  • This size effect results in multiples being applied based thresholds of earnings and revenue within an industry

The two most common valuation multiples are EBITDA and revenue multiples. 

  • EBITDA Multiple: A ratio of the market value (Enterprise Value) to earnings
  • Revenue Multiple: A ratio of the market value (Enterprise Value) to revenue

For private small and mid-sized businesses (SMBs) that are well established, EBITDA valuation multiples tend to be relied on more heavily. For pre-revenue or very early-stage companies, revenue multiples become more relevant. 

 

Read more about industry selection and valuation multiples here.

Frequently asked questions

What is the Market Approach in business valuation?
The Market Approach estimates a business’s value by referencing past transactions of comparable companies. By analyzing how similar businesses were valued in the market, it provides a benchmark for estimating a company’s worth.
Do valuation multiples vary by industry and company size?
Yes. Multiples are industry-specific and often influenced by company size. Larger businesses usually achieve higher multiples because they are perceived as less risky. In many industries, multiples are applied based on thresholds of earnings and revenue.
Is the EBITDA or Revenue multiple more relevant?
EBITDA multiples are commonly used for private small and mid-sized businesses (SMBs) that are profitable and well-established. Since EBITDA reflects operating performance, it is often considered a stronger indicator of sustainable earnings power.

Revenue multiples are often applied to early-stage or pre-revenue companies where earnings are minimal or negative. This helps capture the potential growth story when profits have not yet materialized.
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