This is the first part of a two part article on the topic.
Making Sense of Valuation
By Federica Nazzani
Whose side are you on?
The objective of vendors of businesses is to maximize their selling price whereas buyers will seek to minimize the price which will be paid, thus, the importance of understanding the value assessment.
The relentless question, “What is it worth?”
The simple answer is, “It is a matter of judgment” as there is no hard and fast response to the worth of a company and/or asset. We often hear of value terms such as “fair market value”, “fair value”, “market value”, “adjusted book value”. The significance of each of these terms will differ in the practice of business valuation.
There are some basic fundamental principles in valuation:
Price versus value
Price is determined in the open market once a business interest and/or asset is exposed for sale, strategic benefits and synergies are quantified and the parties to a transaction enter into negotiations. Without exposure to the market, notional value would prevail based upon rates of return required by investors given economic and business conditions existing at the valuation date, but without consideration of possible purchaser synergies. Synergies may include economies of scale, increased purchasing power or other strategic benefits to purchasers of shares and/or assets. Only when an asset or a business interest is exposed for sale that the impact on “price” of arm’s length, third party purchaser synergies can be quantified with any degree of certainty. Therefore, the primary objective of negotiation is to transform value into the transaction price.
Value is at a point in time
A principle often overlooked by business owners is that value is determined at a specific point in time and thus, based on a set of facts together with reasonable and foreseeable forecast and business and industry risk assumptions made at the time. As an example, a business in anticipation of a large contract or in anticipation of the completed development of a technology/asset will have a lower value as it will require a higher risk rate to the estimate of cash flow and earnings than a business with a signed contract and commercially available technology/asset, respectively.
Approaches for valuing your business will be covered next week.
Please contact Federica for more information on this important topic. She can be reached as follows:
Capital Assist (Valuation) Inc.