How To Increase Business Valuation In A Competitive Market

The world of mergers and acquisitions is indisputably linked to company valuation. Knowing how much my company is worth is the first step to starting a purchase and sale operation.

Valuation is a vital task to carry out the sale of your company if you have decided so. It is also useful to face the market in which you find yourself, to know what role your company plays in it, and to understand the competition.

Perhaps you have never had problems with business valuation methods because you are unaware of their importance. We will show you that a valuation is an excellent tool, not only when selling your company, but also to improve its performance. A thorough valuation analysis is essential to introduce improvements and make a difference within our sector.

The problem is that the idea that an entrepreneur has the value of his company and the real value can be very different amounts. So that you understand the difference, in this article, we want to explain the keys and valuation methods most used in the market.

What is it and what is the use of valuing your company: can I know how much my company is worth?

To value a company, regardless of the valuation method chosen, it is necessary to quantify the current elements that make up the company’s assets, the competitive position it holds within its sector, and future wealth generation expectations. Through this analysis, the value-creating elements will be determined and a value range can be specified. This generates a well-founded opinion of what the company may be worth.

What does an appraisal consist of?

The valuation of a company is a technical job, which requires extensive financial knowledge. You must know the company’s business model well, what its strategy is, understand its market and where its value creation elements are.

It must be made clear that an assessment is not an audit. The analyst does not carry out a verification of the financial statements, but starts from some figures that, initially, are considered valid. Nor is it an exhaustive diagnosis of all areas of the company, but rather the analyst when assessing focuses from the beginning on the critical areas that serve to discover the drivers of value.

Factors to take into account to know the value of your company

The value of a company depends on how much profit it will earn, balanced by the risks involved. But past cash flow, profitability, and asset values ​​are just the starting points. Often the factors that provide the greatest value are the most difficult to measure. Examples of these would be: key business relationships and customer loyalty.

In addition to these, there are some key factors that influence the value of companies. Personal circumstances would be one of them. A forced sale due to a health problem, for example, could force the owner to accept the first offer that comes his way. Therefore, the common thing is that the more time you have to carry out the sale, the better the price you will receive for it.

Now you will ask yourself: what exactly should I take into account to value a business? What method do I have to use? The valuation of a company goes far beyond quantifying the elements that create value. It involves technical and financial work with a lot of background research. Think of it as your job, your company, your daily effort to which you have dedicated days and nights. Below, we show you four factors that you should consider if you want to value your company:

1. Returns and risk

Companies are valued based on “their profitability” and “their risk”. It is in these concepts that buyers look.

The final objective that you want to give to the valuation conditions is the method or methods to be used. In this sense, the valuation method used will vary depending on the recipient. For example, a financial investor will seek profitability in a given period of time, and a strategic investor may seek other purposes with the acquisition, such as gaining more market share, eliminating a competitor, or adding a new line of business. In any case, when assessing to negotiate a business sale, all the methods are valid if they serve to rationally support a negotiation.

2. Personal reasons

Everyone makes their assessment, but you have to be careful with this type of criteria. Since it is given for emotional reasons that drive buyers or sellers to be subjective. On many occasions, it can be a barrier, which is why an exhaustive report must be prepared and it must be studied and analyzed by experts in the area.

3. The environment affects the value

You should also keep in mind that companies are not islands. Its value also depends on external factors. For example, in general terms, if the Stock Market is listed at high multiples, your company is worth more than if the Stock Market is low, even if your company is not listed or will not be listed on the Stock Market.

4. Good information is required for a good assessment

Prior to addressing any of the company valuation methods, it is very important to have as much historical financial data on the company as possible, since the valuation will be more in line with reality regarding the value of the company.

Once we have highlighted the relevance of carrying out a comprehensive valuation of your company, the next question that arises is: how do I value my company? To do this, we will explain which are the most used valuation methods.

Types of company valuation

There are several methods to assess how much my company is worth. Mainly the following are used: discounted cash flows and the method of comparable companies.

1. Valuation by discounted cash flows

This valuation method, also known as DFC or discounted free cash flow, incorporates the expectations we have regarding the company’s future performance and its ability to generate cash flows through the company’s resources. A company can use its current free cash flow or its expected free cash flow if the company intends to make operational changes in the near future.

Using the free cash flow method of valuation requires you to discount anticipated future cash flows. This means that the projected value of the cash flows of the next 5 or 10 years must be brought to the present. This calculation can be complex, as it involves some assumptions about operating cash flows, capital expenditures, working capital increases, and growth. However, the focus does not change. The objective is to determine the value of the company’s operating cash flows generated over a period of time after removing the necessary asset investments. This value can go to shareholders in particular or to the company as a whole, but operating cash flows are the drivers.

The main advantage of this method is that it measures elements of the company’s value that other methods are not capable of collecting, specifically the ability to generate profits in the future. However, it poses the drawback that numerous hypotheses have to be made for its calculation and therefore it becomes a laborious method.

2. Valuation by the method of multiples of comparable transactions

The valuation method by multiples of equivalent transactions consists of analyzing the price paid in previous transactions by similar companies, in order to obtain an estimate of the price that is being paid today in the market for a company like yours. The basic idea is that companies with similar characteristics should trade at similar multiples, other things being equal.

This method is the most widely used because it has the advantage of being faster, simpler, and more practical, although sometimes if it is not applied correctly, it can also be the furthest from reality. One of the relevant factors for the selection of comparable companies is size: it is not advisable to take as comparable companies with a sales volume or profits that are 50% lower than that of the target company.

These comparisons are relatively easy to make, and the necessary data is generally available, as long as the comparable companies are publicly traded. Furthermore, assuming that the market is efficiently valuing the securities of other companies, this method provides a reasonable valuation range, whereas other valuation methods, such as the one above, rely on a number of assumptions. On many occasions, the comparable companies method is used as a comparison method against discounted cash flows.

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