Most business owners don't have a clue what the worth of their company is beyond the book value. Others use a rule of thumb such as two times premiums for insurance or six times the number of funerals per year.

Owners typically assume there is one all-purpose value to fit all occasions and are surprised to discover there are different values. For example, your firm may vary in price depending on why you need to know. Those reasons can encompass anything from insurance claims and buy-sell agreements to divorce, mergers and estate planning. No matter what method you use, an independent third-party evaluation is always recommended for two reasons - an inaccurate number could put the owner in store for a costly surprise, and the Internal Revenue Service is likely to set the price and/or challenge your homemade value in the courts.

Approaches to value a business

Income approach. This assumes that today's value is based on the firm's expected future earnings. A business with average earnings of $40,000 over the past five years after taxes might be valued at $200,000, or five times the earnings.

Comparative values of similar concerns. Comparable data and industry averages can be found in Robert Morris Associates published for banks, Prentice Hall's Almanac of Business and Industrial Financial Ratios compiled for the IRS, or Financial Research Associates' data compiled from CPA records.

Asset-based. This approach considers only the tangible assets and does not take into account the value of goodwill (now depreciable for companies acquired since August 1993) and other intangible assets (patents, location, customer lists).

Combination or formula approach. Use the three major factors above and place percentages on them to complement strengths and weaknesses.

Selling outside the family

Prepare the company for sale. The three "key" words are: organize, attract and present. If you were going to sell your house, you would fix up, repair and paint. Do the same for your business.

Also clean up the financial picture by eliminating the non-business-related expenses (travel and entertainment), losses on one-time write-offs and necessary assets (real estate).

Pricing often comes down to income, market and asset-based approaches. By removing such items from the business, buyers will have a clean picture of what assets are needed to produce the company's profits.

Other tasks you might consider include a brief history of the company, a written description of the day-to-day activity of the company with an organizational chart, a description of your market position, prepared financial statements showing the best possible performance, forecasts of the future in detail and written aspects of the firm that drive its value.

Find a buyer with cash. Begin with first-rate marketing material that will attract qualified buyers yet maintain confidentiality. Once more proprietary information is requested, a confidentiality agreement must be completed.

Most owners look to employees, customers, suppliers or competitors as potential buyers. However, mergers and other buying sources could be the right solution.

The negotiations begin when you ask interested buyers to submit an acquisition proposal by a certain date. The deadline for the letter of intent spells out economic terms and conditions, stock or asset sale, cash or promissory notes, terms, loan guarantee, financing, tax and legal matters, representations and warranties and owner or key employee participation after the sale. Reconcile price and terms with your personal goals. For example, you may take less cash upfront to get five or 10 years of additional part-time employment with after-tax dollars.

Set the price for the company. Work to get the best possible price, but leave room for movement up and down. Now set the lowest acceptable price.

Predetermine what you want to sell - stock or assets. If it is assets only, adjust the price upward to cover extra taxes. In most cases, terms of a deferred contract can shape the final price.

Determine the minimum cash you want upfront and the type of security needed. Then consider an employment contract, consulting agreement or non-compete as a means to get the dollars you want and the tax break the buyer may need.

Prepare to make the sale. Once you have received the letter of intent and an agreement has been reached, the buyer sends in a crew of people to conduct a due diligence on your company by analyzing all aspects of the operation. The buyer will look at inventory, OSHA compliance, accounting issues, tax obligations, product liability, personal damage and status of personal guarantees. Prepare for this step well in advance.

When the selling and buying teams are satisfied, closing the transaction is culminated in the signing of a definitive purchase agreement.

This entire process could take from one to two years. However, done properly and with planning, the complex and difficult experience is justified.