There are several different methods of business valuation. However, the primary difference is the purpose for which the valuation is performed. Business valuations are conducted with three primary purposes in mind: to determine if the company is worth buying, to sell, or to determine whether the business is worth saving. There are also different methods that may be more appropriate for different situations. Listed below are the most common methods for business valuation. To get an accurate estimate of the value of a company, choose a method that will meet your needs.
To value a business, you need to understand its financial and operating performance. If you don’t understand these factors, it may be impossible to assess the true value of your business. Regardless of the method you choose, you should understand your company’s risk profile and strategy. You can also make an educated guess regarding your company’s worth based on your own research. It is also important to know the company’s history and ownership structure. These facts are critical to determining a fair value for your business.
The most common method of business valuation is based on revenue. If your business is based on a revenue stream of $500K, it may be worth a hundred thousand dollars more than its actual value. For example, a fast-growing high-tech company may be worth $500,000 but has an unsecured debt of $100k. In this case, the valuation would be based on 40% of the company’s annual revenue for the past year. In such a case, the buyer would offer $400,000 for the company but take the debt.
Another method of business valuation is the cost approach. This approach is based on the assumption that future cashflows will not be worth much more than the costs of rebuilding the business. In this method, the replacement cost is the cost of the assets in the company less the depreciation. Using this method is appropriate for determining the fair value of a company. This method is generally used by the government, as it is less expensive to recreate the business than the replacement cost.
A third method of business valuation is the times-revenue method. In this method, the company’s economic value is estimated by applying a certain multiplier to the revenue stream. These multipliers are different in different industries, and are dependent on the economy and industry conditions. A company that is poised for rapid growth is likely to earn a high multiplier than one that is based on sales revenue. Similarly, a slow-growing business will have a low multiplier.
Discount-rate is an important aspect of discounted cash flow method of business valuation. The discount rate refers to the amount of risk a business will incur. A lower discount rate will result in a more sustainable business. Moreover, the discount rate is a derivative of the capitalization rate. The difference between the discount rate and capitalization rate represents the long-term growth rate of the business. Hence, the discounted cash flow method of business valuation is a more appropriate choice.