What Does Rule of Thumb Mean?
In valuation, a rule of thumb is a common procedure or practice used to value a company. These procedures are based on past valuation experiences and estimates in that industry, rather than specific calculations. Rule of thumbs typically involve using multiples that are relevant to whichever industry the valued firm is in.
Divestopedia Explains Rule of Thumb
Using rule of thumb practices can be helpful when it comes to better understanding certain industries and what is considered normal. However, although they can be useful planning tools, they are not precise business valuation methods. In-depth research into the specifics of an individual company needs to be completed, because the general assumptions of rule of thumb methods are not always exact.
Rules of thumb are more commonly applied in the valuation of main street businesses, but even in these situations, there are many other factors that will impact value. Mid market businesses will usually use more accepted valuation methods in determining value. In any case, a rule of thumb should only be used to gain a general understanding of potential value ranges. If a valuation is required for any business decision (i.e. exit planning, selling, transfer to family member) a more robust valuation analysis should be conducted.