How to Value a Consulting Firm
Consulting firms provide a wide range of services primarily to businesses, non-profits, and public sector agencies. This often includes advising on organizational design, human resources, information technology strategy, finances, etc… According to IBIS World, the consulting industry retains steady demand, generating over $329 billion dollars in revenue over the past several years. We can expect the industry to continue to grow in the coming years. However, the consulting industry is very competitive. If you are buying, growing, or selling a consulting firm, it is crucial to know how to strengthen your firm against competitors. You can start by learning how to value a consulting firm.
Learning how to value a consulting firm comes with many benefits. The best way to start is to receive a business valuation. When valuing a consulting firm, a business appraiser determines the fair market value of a consulting firm. In addition, they may highlight the risks and advantages of your consulting firm. With this information, you can take steps to increase the value of a consulting firm.
Peak Business Valuation is a professional business appraiser. We work with many consulting firms throughout the country. Peak Business Valuation is happy to provide you with a business valuation for a consulting firm. We can also discuss any questions you may have about how to value a consulting firm. Start now by scheduling a free consultation with Peak Business Valuation below!
How to Value a Consulting Firm
There are various valuation approaches a business appraiser may use to value a consulting firm. At Peak Business Valuation, our appraisers often use the market approach and/or the income approach. Both approaches are effective in determining the value of a consulting firm. However, each approach uses a different basis of valuation. The business appraiser will determine which method is best for your consulting firm during the valuation process. This can include using a combination of valuation approaches.
Valuing a Consulting Firm Using the Market Approach
Often, business appraisers use the market approach to value a consulting firm. To understand the market approach, consider the approach real estate appraisers use to value a home. Real estate appraisers analyze similar properties that were recently sold in the area. This helps them accurately determine the value of a home. With the market approach, a business appraiser considers similar consulting firms that were sold on the open market. If the consulting firm is a private business, the appraiser refers to private transaction databases.
Multiples for a Consulting Firm
When using the market approach to value a consulting firm, business appraisers work with valuation multiples. Valuation multiples are ratios that measure the value of a consulting firm in relation to a financial metric. This can include cash flow, sales, or earnings. To find the proper multiples for a consulting firm, business appraisers use the applicable NAICS or SIC code. Below, we discuss the basics of SDE, EBITDA, and REV multiples for a consulting firm.
SDE (Seller’s Discretionary Earnings) Multiple for a Consulting Firm
- The SDE multiple measures the value of a consulting firm according to its seller’s discretionary earnings. This involves multiplying the consulting firm’s SDE by the multiple. SDE multiples are common when valuing a consulting firm.
EBITDA Multiple for a Consulting Firm
- The EBITDA multiple measures a consulting firm’s earnings before interest, taxes, and amortization. This multiple indicates the return on investment a consulting firm can expect.
REVENUE or SALES Multiple for a Consulting Firm
- The REVENUE multiple measures the value of a consulting firm based on its revenue or sales. When using this multiple, business appraisers assess the total amount of sales a consulting firm generates.
The multiple a business appraiser uses depends on various factors. This can include the type of business transaction, the purpose of the business valuation, and the size of the business. Valuation experts use their knowledge and expertise to determine which multiple is most applicable to your consulting firm. To learn more, see Valuation Multiples for a Consulting Firm.
Valuing a Consulting Firm Using the Income Approach
The income approach is another common method to determine the value of a consulting firm. This approach measures the future cash flow potential of a consulting firm. In addition, business appraisers assess the risks of buying or selling a consulting firm when using the income approach. We may discuss the following risks when valuing a consulting firm.
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- Competition: The consulting industry is very competitive. Consulting firms must find ways to differentiate from competitors to succeed.
- Service Mix: Consulting firms can offer a wide range of services. To build a profitable firm, it is important to be aware of trending and high-demand services.
- Client Relationships: It is important for consulting firms to build strong client relationships. This promotes recurring revenue and increases the value of a consulting firm.
- Workforce: To build a reputable consulting firm, it is crucial to hire skilled consultants. Your workforce should be able to meet client needs efficiently and effectively.
Methods to Value a Consulting Firm Using the Income Approach
There are two common methods under the income approach that business appraisers may use when valuing a consulting firm. They are the capitalization of cash flow method and the discounted cash flow method. We discuss how to value a consulting business using these valuation methods below.
Capitalization of Cash Flow Method
- The capitalization of cash flow method is most suitable for consulting firms with long and stable histories. When using this method, the business appraiser determines an appropriate measure of cash flow for one period. Then, they divide the cash flow by an appropriate capitalization rate. The capitalization rate represents a reasonable rate of return an investor can expect. It also assesses the risks associated with buying or selling a consulting firm.
Discounted Cash Flow Method
- The discounted cash flow method uses 3-5 years of future cash flow projections to measure the value of a consulting firm. The valuation expert discounts the future cash flows using a discount rate rather than a capitalization rate. Keep in mind, the discounted cash flow method is best for consulting firms with strong financial histories. It may also benefit consulting firms that have built reliable forecasts. Please note that this method is less common since it is limited to future cash flows which can be inaccurate.
Summary
At Peak Business Valuation, our business appraisers often use the market approach and/or the income approach when valuing a consulting firm. These valuation methods help the expert determine the value of a consulting firm from different perspectives. To determine the most suitable method for your consulting firm, receive a business valuation for a consulting firm. As part of a business valuation, an expert can help you understand the strengths and weaknesses of your consulting firm. In addition, you may learn how to maximize the value of a consulting company whether you are buying, growing, or selling the firm.
Peak Business Valuation, business appraiser, works with consulting firms on a regular basis. We are happy to provide you with a business valuation for a consulting firm. Peak can also answer any questions you may have about how to value a consulting firm. Schedule a free consultation with Peak Business Valuation today!
For more information see Valuing a Consulting Firm, Valuation Multiples for a Consulting Firm, and Value Drivers for a Consulting Company.
