If you’ve ever tried to perform a valuation of a company before, you’ll know that it’s no easy task to arrive at a specific value – let alone be confident with the result. Whether you’re conducting a valuation of your own company, or a publicly traded company, it can be tough knowing where to start and which values to include. Hopefully we can clear some of this up for you.
What is a business valuation?
A business valuation is a set of calculations and processes to determine the true value of a company. The goal is to find the business entity’s economic value, typically in terms of dollars. This task can be approached in a variety of ways using one of many techniques that exist. Some of these methods are more suitable than others depending on the nature of the measurement. Lastly, there are many reasons why you would be interested in knowing the business valuation of a company – we will discuss this next.
When do you conduct a business valuation?
There are times when you may find that you need to conduct a business valuation. This can be broken down into two separate purposes. The first one deals with a personal business that you own and the second one involves speculation about publicly traded firms.
In the case of your own business, there are many instances when a business valuation may be needed. The first and most obvious scenario is if you are planning to sell the business. You will definitely need to have an idea of what you can expect to sell the company for. Other times it may be required when securing further financing options, bringing in new partners, or parting ways with existing partners.
As for speculating on the stock market, you may wish to determine whether a company is under or overpriced based on its current valuation. Ultimately, you will be trying to determine whether it’s a worthwhile investment or not.
Some tools for conducting a business valuation.
As we mentioned, there are many routes you can take to complete a business valuation. The method you choose will depend on the nature of the valuation.
1) Discounted Cash Flow: Take the concept of the time value of money (TVM)(link to article)and get ready to apply it to this valuation technique. This model looks at the expected future cash flows of a business and associates a value with them. You can learn more about applying the discounted cash flow method in our upcoming article.
2) Multiples Method: There are various multiples you can use for comparison. This includes the pricing earnings (P/E) multiple, the EBITDA multiple and many more. The P/E multiple takes a company’s stock price and divides it by the earnings per share to arrive at an amount. Multiples typically are most helpful when compared against industry benchmarks. It is very hard to derive meaning from these values on their own.
3)Comparable Transactions: This is typically used for the valuation of a company involved in a merger or acquisition. You are looking to find past examples of similar transactions that took place. From there, you are trying to identify a parameter that can be used in the current valuation. For example, if the company that was previously bought was valued at 20 times its EBITDA, then you can try applying this multiple to the valuation at hand. In this case, you would then value the company being acquired at 20 times its EBITDA.
4) Market Valuation: This technique is also somewhat similar to the comparable transactions method. Here, you attempt to find other businesses that are facing similar situations as a given company to help derive its valuation. The valuation will be more accurate if the comparable company is relevant and industry-related.
5) Times Revenue: In some cases, small businesses may just use times revenue to get a range of possible valuations. This is generally used to start negotiations when the owner wishes to sell the company. This involves taking the annual revenue of your business and multiplying it by a certain factor to arrive at a valuation amount. You can use techniques from the other methods, specifically the comparable transaction method, if you plan to sell your business.
Now that we’ve introduced the standard valuation techniques, stay tuned as we dive further into a few of them. Be sure to learn about all the ways Elite Legacy Education can help you reach your goals.
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