Unleash the hidden value through business valuations
Valuation plays a key role in corporate finance, mergers, acquisitions and in portfolio management. The fundamental assumption of business valuation is that the value of a business is driven by the ability of the company to generate future cash flows.
Companies thrive by creating economic value by investing the capital at rates of return which exceeds their cost of capital.
These fundamentals do not change. This is valid across time and geographical boundaries.
Business valuation across the world is guided by business valuation standards by various value appraising societies who have also laid down certain codes of business valuation which are to be practiced by the valuers.
The selection of the valuation method is as critical as the value arrived at. The choice of valuation method depends upon the nature of the industry and the purpose of valuation.
If one is not update in valuation technique the results can be suicidal.
You have to engage the right approach. It is both common sense and mathematics. The most common approaches are earnings based approach, market based approach and asset based approach.
Income approach: Under the income approach to valuation, an entity’s expected future economic benefit (i.e., annual earnings or cash flows) is estimated, and then discounted to present value using a rate suitable for the risks associated with realising those benefits.
This is the most common approach used for business valuation in this part of the world.
Alternatively, under the income approach, an entity’s normalised level of ongoing benefits may be capitalised in order to estimate value.
Generally, this approach is used when enough reliable data is available to reasonably estimate expected normal earnings; and the company’s value is derived primarily from the present value of the economic benefits of ownership therein
Market approach: This approach to valuation assumes that the value of an entity can be determined from analysing recent sales of comparable entities.
Under this approach, the valuator obtains comparative transaction data and adjusts to the requirements of the company under valuation.
This valuation approach is appropriate only when the valuator is able to identify similar transactions that has taken place recently in the market.
In a small economy or Middle East, where number of M&A transactions is less this approach is difficult to practice. Asset approach: The asset approach assumes that an entity’s value is indicated by the cost of reproducing or replacing it, less an allowance for physical deterioration and obsolescence.
Under this approach, an entity’s assets and liabilities are typically adjusted to the appraised values to determine the value of the entity’s equity on a controlling, marketable basis.
This valuation approach is appropriate for valuing entities which hold significant tangible assets; have little or no value added from labour; have no significant intangible assets; and/or have value that is not dependent on earnings potential.
The value of a firm is directly related to decisions that it makes, the projects which it takes, how it finances them and on its dividend policy.
Through a business valuation exercise the company is able to unleash the hidden value and create real economic value to its shareholders. The objective is the maximisation of firm value.