Basics of Business Valuation

Business Valuation – The deal making value

Business valuation is the art and science of understanding the value and worth of any business. Generally the promoters , investors as well as the financial institutions wants to understand the value of business in order to take strategic decisions like sale of business , sale of certain stake of business, merger of business etc.

There are three approaches to Valuation – The asset approach, the income approach & the market approach.

The Asset Approach or the balance sheet approach is extremely useful for company with large asset base like real estate companies with land bank and may not be very useful for service industry companies like tech companies or e -commerce companies like Amazon, Flipkart, ebay etc. This approach is based on historical data and does not take care of the future.

The Income Approach is useful for companies having a promising business story and having a good potential. This approach takes care of the future potential of business. Under this method discounted cash flow is the most popular method which takes care of the future cash flow of business. However this is a very sensitive model as it is based on various assumptions like the discount rate i.e. cost of equity or weighted average cost of capital through which the cash flow is to be discounted, the terminal growth rate and the systematic risk i.e beta factor of listed peers. A small change in any of these factors can drastically change the value of the business. However while applying the DCF methodology the first and the foremost step is to validate the projections with the help of peer companies.

The Market Approach

The market approach in case of unlisted companies means applying the peer listed companies multiple to our company and valuing our unlisted company on the basis of market sentiment like PE Multiple, EBITDA Multiple, Mcap/ sales multiple etc.

At times it confuses us which method need to be applied while undertaking any valuation, however the best way is apply all the methods which suits your business model at first hand and then apply relevant weight based on the importance of the method to our business model. Applying different method is useful as its helps in making a sanity check.

One thing is of prime importance that there are different methods present to value a business; however the experience of the valuer play a most significant role as his experience can guide the client in deriving a fair value of business after looking into various aspect of business.

Thanks & Regards
PureValue Research Team

One Reply to “Basics of Business Valuation”

  1. I am unsure where you are obtaining your tips, still nice topic. I have to spend some time learning much more or understanding more. Thanks for excellent tips I was in search of this content for my quest.

Leave a Reply

Your email address will not be published. Required fields are marked *