Book value

Book value is often misconceived because most business owners think of book value from the income tax standpoint, meaning the depreciated value used for the income tax purposes. That’s not what this book value refers to for valuation. Book value is the fair market value of all corporate assets. If you looked at every corporate asset, took its fair market value today, (some items appreciate some depreciate) but you take what is worth today, and the sum of all assets become the book value. It’s the physical value today of all the assets.

The difference between this and the Income tax book value is that various methods of depreciation are allowed for valuing for tax purposes. Often the depreciated value for tax purposes is far less than what the current market value would be. There are also instances where the market value is far less than what the IRS allows for the depreciated value. Again, book value should reflect what the value would be if all the assets of the business were sold

Average annual earnings

It is Gross Profit minus Expenses and Taxes. Adjusted Average Net Annual Earnings of the business is obtained by adding any excess owner salary to the Average Annual Earnings.

Excess Owner Salary

Sometimes the owners are paying themselves more than they would pay an employee to just do their day-to-day business functions. If their salaries reflect more than what you would pay a non-owner to do the same job, the difference is the “excess owner salary.” For valuation purposes that excess salary is treated the same as net earnings and included in adjusted average net earnings.