The Three Main Methods of Business Valuation

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Business valuation methods are what is used to determine what the value of a business is. It is when business valuation services are employed to implement a certain procedure or set of techniques that are used to find out small business valuations. Typically there are three main approaches that are used in determining business value. Within each of these main three techniques there are several different types of methods that are used. They all rely on the same kinds of principles but the details of each differ a lot. This article will briefly go over these three methods.

Asset Based Valuation
This method focuses mainly on cost based theories. By using the total amount that it would take to make an entirely new business of equal value, it is possible to determine the current value of an existing business. This is useful for determining price allocation which is one of the most important parts of a business deal. The main methods used with the asset based valuation approach is the asset accumulation method and the excess earning method.

The former is more often used when setting a framework for the market value of the assets and liabilities. Whatever the difference between the two are, is the determined business value. Keep in mind that this is different from what a typical balance sheet would portray.

The latter method, the excess earning method, is used in addition to the asset accumulation method as it gives a good idea of the value of the business in accordance with it’s goodwill approach.

Income Based Valuation
This approach is purely based on the company’s ability to produce income compared with the amount of risk that it holds when doing so. Capitalization and discounting are the main methods that are used to determine business risk. A business appraisal must be done in order for this technique to work and that is usually done using one or all of the follow: capitalization of earnings, multiple of discretionary earnings and/or discounted cash flow. These are the most common used methods and are regularly used together to get an overall picture of the business income capability.

Market Based Valuation
This method looks at similar businesses that have recently be sold and finds out their selling prices. It will then take that number and compare it the business in question in order to find out how to measures up. The publicly traded company method and the comparable transaction method are often used to find out this comparisons. The only way that this method works is to look at businesses that are almost in the same position. If the subject is a private business, then another private business that was recently sold must be looked at and public for public, etc. Comparable business sales and valuation market approaches are a good way to find out what the fair market value is for a particular business.
If you are looking for business valuation services, the best place to start is with a service that understands the above three methods. If the business valuation services you are interviewing are unfamiliar with one of these, then your best bet is to keep looking. Good business valuation services will understand not only these techniques and methods but other procedures and a more detailed explained of each of the above mentioned. While you should do your own homework before going into a meeting, the service should still know more about the valuation methods than you do otherwise there is no point in hiring them. The valuation process can get quite complicated if there are a lot of different aspects to the business and they should know exactly what to do in each situation.

If you are looking to merge with another company or buy out a small business, then you should never do so without first finding out the business valuation and to do that, you must be able to trust the service you are using. Something the valuation is subject to person opinion and research so you could get different answers depending on who you use. However, the answer must always find a happy medium and be agreeable to both the seller and the purchaser. That’s the most important part.

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