Methods For Valuation Of A Business
The accurate fiscal worth or the measure of the economic value of a business is termed as the Valuation of a business
. The process is significant for various financial purposes. It determines how much a potential financier will invest in a particular business and the amount of return that can be expected.
A business per se or its strategic unit may be valued for one of the following reasons:
Prior to a merger or an acquisition
To resolve concerns pertaining to estate or gift taxation
To estimate the net worth of a business prior to its sale
To assess your business before approaching potential shareholders or investors
The Components of Business Valuation
A realistic valuation of a business involves much more than analyzing the preceding years financial statements.
It requires a comprehensive analysis of multiple years of business performance.
The prospective position of the company in the market against competitors.
It also considers the future of the industry based on the economic predictions.
Valuation of a Business Approaches
There is no particular method employed for valuation of a business. There are various methods used, which use different sources of financial information and a variety of assumptions to calculate the worth of a particular business. For instance, the method could be based on the evaluation of assets owned by a company, the inflow and outflow of cash for the business, or the projected earnings of the company.
Lets discuss some widely adopted methods for valuation of a business.
The following methods are based on earnings and cash-flow:
1.Discounted or Future Cash Flow Method
This approach is preferred the most by prospective investors of a company due to its accuracy and effectiveness. It is called the future cash flow method because it takes into account the projected financial ups and downs over a specific period and the money that is expected to flow into the company. This will give a fair idea to the investor about the expected ROI and the time they must wait to receive the same.
2.Going Concern Valuation Method
This method weighs the current investment against the future monetary inflows. It uses the financial figures of previous years to speculate the revenues in future, assuming that no change will occur. The conclusion of the method is based on the principle that the higher the amount of potential cash flow, the greater is the value of the business today.
The following methods are based on assets owned by the company:
1.Book Value Method
This method is the simplest, through which the valuation of a business can be calculated from the companys financial statements. It requires simply subtracting the companys liabilities from its assets owned. The value obtained is the net worth of the business, also called its book value or shareholders equity.
2.Liquidation Value Method
This method first assigns a distressed rate to the companys assets and subtracts the actual value of liabilities from the resultant figure. Liquidation value reflects the value of a business much lower than the current market rate. It is generally employed only if a business is in serious economic trouble.
In the end, actually a business is exactly worth what the investors are ready to invest in it or buyers are willing to pay for it in the current market scenario.
by: Rodney Wincaster
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