Business Valuation Methods

The true value of a business is what someone will pay for it. To arrive at this figure, buyers use the following valuation methods:

Asset Valuation: This method is appropriate if the business has significant tangible assets (i.e. it’s a property business). Please see more details at the following link: 


Price/earnings ratio: A method appropriate if the business is making sustainable profits. Please see more details at the following link:

Entry cost: Rather than buy a business, you could start a similar venture from scratch. An entry cost valuation reflects what this process would cost. To make an entry cost valuation, calculate the cost to the business of: Raising the necessary financing, purchasing its assets, developing its products, recruiting and training the employees, building up a customer base). Then make a comparative assessment. Factor in any cost savings you could make (i.e. by using better technology, by locating in a less expensive area, etc.). The entry cost valuation can then be based on cheaper alternatives, which is generally more realistic.

Discounted cash-flow: This method is the most technical way of valuing a business. It depends heavily upon assumptions about long-term business conditions. It is used for cash-generating businesses which are stable and mature. The valuation is based on the sum of the dividends forecast for each of the next 15 years (at least), plus a residual value at the end of the period (the value today of each future dividend is calculated using a ‘discount interest rate’, which takes account of the risk and the time value of money – $1 received today is worth more than $1 received tomorrow). If a business can inspire confidence in its long-term prospects, then this method underlines the business’ solid credentials.

Industry rules of thumb: In some industry sectors, buying and selling businesses is common. This leads to the development of industry-wide rules of thumb. The rules of thumb are dependent on factors other than profit. For example: Sales turnover, number of customers, number of outlets, etc.). Furthermore, buyers will work out what the business is worth to them.

When valuing a business, you usually use at least two of these methods to arrive at a range of values.

A small unquoted business is usually valued at between five and ten times its annual post-tax profit (previously - most notably in the IT market - the ratio has exploded, with some valuations being drawn from multiples of 70 or more, however, the differential has closed significantly, with IT-based companies seeing the sharpest drops).

Thank you for visiting ReplayBusiness.com and keep an eye out for a new article.

Did you like this article?

Subscribe to ReplayBusiness to receive all new postings straight to your inbox!

Tell us what you think!

We truly encourage your participation!

Contact us:  http://www.replaybusiness.com/p/contact.html

This is how we all learn, share and acquire knowledge!

Twitter

Follow us and retweet to your followers:https://twitter.com/ReplayBusiness
 
Replay Business © 2011 Costas Stabolas| Designed by Nowmysite.com