How to Value a Business Before You Buy It
Buying a business requires both analysis and judgment. Before signing a letter of intent, you need a clear view of normalized earnings, a multiple that reflects risk, and a comparison to similar deals.
This guide outlines a simple four-step framework that acquisition entrepreneurs and first-time buyers can use to value a company in a weekend. It also covers when it makes sense to call in professional help.
Navigate Your Exit with Confidence 🚀
Introducing the Exit Navigator
Whether you're 12 months or 12 weeks from exit, our Exit Navigator gives you a step-by-step roadmap to prepare, position, and sell your tech company at maximum value. Built for founders in the $2M–$20M revenue range, this free download includes:
A deal-readiness checklist
Tips for reducing diligence friction
Red-flag risk items buyers spot quickly
Valuation drivers by business model
A 6-phase roadmap from prep to post-close
Make your exit a strategy—not a scramble.
Book your free assessment call HERE or download our Million Dollar Exit Guide for free below 👇
The Four-Step Framework
Normalize earnings (EBITDA)
Adjust for owner-specific and one-time items to find true cash flow.
Apply a risk-appropriate multiple
Use industry ranges and adjust for quality, stability, and growth.
Compare with comps and payback math
Test your valuation against recent deals and real equity returns.
Identify and price key risks
Factor in issues that could impact performance post-close.
Step 1: Normalize Earnings (EBITDA with Add-Backs)
EBITDA—earnings before interest, taxes, depreciation, and amortization—is the starting point for small business valuation. But the reported number rarely tells the full story.
You’ll need to rebuild a “pro forma” EBITDA that reflects what a new owner could expect going forward.
Common Add-Backs
Excess owner salary or personal perks
One-time legal or consulting expenses
Non-operating income or expenses
Personal items such as travel, vehicle, or phone bills
Common Negative Adjustments (Often Missed)
Under-market owner salary (should be adjusted to market)
Deferred maintenance or repairs that will impact the income statement
Temporary government subsidies or short-term windfalls (a lot of this occurred through COVID)
Customer loss that reduces future revenue
Keep each adjustment documented with notes and invoices. The goal is a defensible normalized EBITDA that your lender, seller, and investors (if you have them) can all agree on.
Step 2: Apply a Multiple Based on Risk and Quality
Multiples convert earnings into enterprise value. A stronger, more predictable company earns a higher multiple; a riskier, owner-dependent one earns less.
Factors That Influence Multiples
Size: Larger EBITDA tends to earn higher multiples.
Revenue quality: Recurring or contracted revenue is more valuable.
Growth: Consistent growth and low cyclicality drive premium pricing.
Customer concentration: Heavy reliance on one client reduces value.
Management depth: A capable team beyond the owner adds confidence.
Financial discipline: Clean, accrual-based financials signal reliability.
Industry Benchmark Ranges
Note: the below are very simplistic rules of thumb. Join our office hours HERE to get a free 2nd opinion on your valuation.
Step 3: Compare With Comps and Payback Math
Once you’ve estimated normalized EBITDA and applied a multiple, check your result against reality.
Comparable Transactions
Review closed deals of similar size and model through public listings, M&A databases, or lender feedback. The goal is not a perfect match but directional confirmation.
Payback Math
After debt service and a reasonable owner salary, does your equity pay back in three to five years? If not, revisit the price or structure.
Use Structure to Balance Risk
If you can’t align on value, negotiate structure—such as seller financing, earnouts, or holdbacks—to bridge the gap.
Step 4: Map and Price Key Risks
Before you buy, create a risk register and decide whether to:
Price it into the deal
Mitigate it through structure
Walk away
Common Risk Categories
Customer concentration: Any single customer over 20% of revenue
Supplier dependency: Reliance on a sole source
Key-person risk: Business relies heavily on the seller
Financial quality: Weak bookkeeping or cash-basis accounting
Regulatory exposure: Licenses or compliance requirements
Working capital needs: High upfront cash to operate
CAPEX: Significant maintenance or equipment replacement costs
When to Bring in a Professional
Some deals call for deeper validation. Hire a professional if:
EBITDA exceeds your comfort level
You plan to use significant third-party debt
The business has customer concentration or complex financials
You need third-party validation for investors or lenders
Common Options
Quality of Earnings (QoE): CPA-led review confirming true EBITDA of the business and working capital. While QoEs are an added expense in the deal process, it could save you millions by helping you avoid buying a bad business.
Independent Valuation: Formal opinion of value for negotiations or financing. If you are buying a business with SBA financing, you’ll need a 3rd party appraisal as a part of the process.
Practical Tips for First-Time Buyers
Request accrual financials and general ledger detail for two years.
Recast owner compensation to a market salary.
Model three scenarios—base, downside, upside.
Focus on structure that protects your equity if performance slips.
Keep diligence notes in memo form to speed lender discussions.
Key Takeaways
Normalize EBITDA with clear documentation.
Use multiples as a guide, not a rule.
Validate value with comps and payback math.
Structure deals to balance risk.
Bring in professionals for complex or leveraged transactions.
Final Thoughts
Valuing a small business before you buy it is both analytical and practical. A clear process builds confidence, keeps you disciplined, and prevents overpayment.
Want to access better deal flow? Join our Buyer Distribution List HERE
FAQ: Valuing and Buying a Small Business in North America (U.S. and Canada)
1) What is the best way to value a small business in North America?
Use normalized EBITDA multiplied by a risk‑adjusted market multiple, then sense‑check with recent comps and equity payback.
2) What does “normalized EBITDA” include?
Adjust reported EBITDA for owner salary to market, one‑time and non‑operating items, and negative adjustments like deferred maintenance or temporary subsidies.
3) What multiples are typical in the U.S. and Canada right now?
Many owner‑operated companies trade around 3×–5× normalized EBITDA. Larger, lower‑risk, or recurring‑revenue businesses can trade higher.
4) How does location affect value (major metros vs. regional markets)?
Large metros with deeper buyer pools and talent often command higher multiples. Regional markets may discount unless they offer strategic advantages or limited competition.
5) What’s a quick equity payback check?
After debt service and a market owner salary, target equity payback in roughly 3–5 years. If longer, revisit price or structure.
6) How much senior debt is typical?
Underwriting often ranges around 2.0×–3.0× EBITDA depending on cash‑flow durability, collateral, and lender type. Availability varies between U.S. SBA/conventional and Canadian bank programs.
7) Are seller notes and earnouts common?
Yes. Vendor or seller notes of 10%–30% and performance‑based earnouts are common to bridge valuation gaps and align incentives.
8) What documents should I request first?
Accrual financial statements, GL detail, tax filings, AR/AP agings, customer revenue by cohort, key contracts, and required licenses or permits for the state/province.
9) How do customer concentration and owner dependency impact value?
High concentration or key‑person risk lowers the multiple. Mitigate via transition plans, retention agreements, and holdbacks.
10) Which industries tend to earn higher multiples?
Businesses with recurring or contracted revenue, low cyclicality, clean financials, and diversified customers, including certain home services, professional services, and software‑enabled operations.
11) When is a Quality of Earnings (QoE) advisable?
If leverage is meaningful, financials are complex, or the deal is material to you, a QoE helps validate EBITDA and working capital.
12) How should CAPEX and working capital be priced?
Model replacement CAPEX and a working‑capital true‑up in sources and uses. Adjust price or structure accordingly.
13) Can foreign buyers acquire U.S. or Canadian businesses?
Often yes, but immigration, tax, and financing considerations apply. Engage cross‑border legal, tax, and lending advisors early.
14) What timelines and costs should I expect?
For sub‑$5M EV deals, diligence commonly runs 30–90 days. Costs vary by scope but typically include legal, QoE, and financing fees.
15) Where can I get help on a specific North American deal?
Book a confidential consultation with Breakwater to pressure‑test valuation and structure before submitting an LOI.
Recommended Reading
For more resources on evaluating offers and exit strategies, explore these related Breakwater articles:
How to Find the Right M&A Advisor
Find out how to choose an advisor who can run a competitive process, negotiate structure (not just price), and protect your leverage through diligence.
Selling a Services Business? Read This Before You Sign Anything
A practical guide for services founders on valuation, owner‑dependency, documentation, and the red flags that kill deals.
Agency‑specific playbook covering valuation ranges, recurring revenue premiums, client concentration, and transition planning.
How to Sell a Business with $500K+ EBITDA
Step‑by‑step roadmap for founders at the $500K EBITDA threshold to prepare, create buyer demand, and maximize exit value.
📥 Want the Full Guide?
Get access to The Complete Million Dollar Business Exit Guide (includes our Exit Checklist)—downloadable with one click and packed with tools, checklists, and insights.
Enter your email below for full access:
Join an upcoming webinar!
Whether you’re looking to buy or sell an IT services company, join one of our upcoming events:
Come visit us!