The value of a company becomes a very important information during any major business undertaking like a merger or an acquisition. A merger or acquisition requires a large number of data for the assistance of both the buyer and the seller in the decision making process. The buyer seeks to purchase the business at the minimum pricing and the seller wants to make the selling price maximum. This situation can be optimized with the help of a business valuation report.
There are a number of methods of business valuation. The most commonly used valuation method involves the comparison of the market worth of a number of competitive companies in the industry. In this method, certain ratios are deduced using key data which helps in judging the worth of the business. Such ratios are known as comparative ratios. A few of such ratios are as follows.
i) Price-earnings ratio: Sometimes, the acquirer might decide to offer a price which is in multiples of the earnings of the seller company. In that scenario, the comparison of P/E ratios of all the companies in the particular industry educates the acquirer regarding which investment would be the most profitable.
ii) Enterprise Value-to-Sales Ratio: This ratio serves similar purpose for the investor, when the offer is made in multiple of revenues instead of earnings.
Another method which many investors use to valuate a company for lending out small business funding is the Replacement Cost method. In this method, the replacement cost of the business is determined after thorough internal and external analysis of the business. The replacement cost refers to the cost one would incur to build the same company and gain its market position in the current time. It includes all the assets of the company, tangible or intangible, the human resource, the brand equity and also the management assemble of the business. This method of valuation benefits both the parties. However, the method might face discrepancy in its results because there are a number of factors which are not quantifiable.
A similar method which sometimes, generates better results of the business valuation of a company is the discounted cash flow method. In this method, the company's present value is determined in accordance with the future cash flow estimation of the business. The forecasted cash flows are then discounted to fit in the present scenario using the weighted average costs of capital method. This method might seem a bit complex to some investors, but the results might prove to be better for forming decisions upon.
In order to avoid any error while taking up any of these methods, the use of software packages for business valuation is increasing at a fast rate. A business valuation software can provide ample information to take the right decision regarding any business funding.