Business valuation is a set of procedures that is used to estimate the economic value of a business. Valuation is commonly used by financial market participants to determine the price they are willing to pay or receive to consummate a sale of a business. In addition to estimating the selling price of a business, the same valuation tools are often used by business appraisers to resolve disputes related to estate and gift taxation, divorce litigation, and allocate business purchase prices among business assets.
There are various methods of business valuation including income, asset and market approaches, discount or capitalization rates, the capital asset pricing model, weighted average cost of capital, and the buildup method. These methods are followed to arrive at meaningful comparison between businesses that are similarly situated.
How It Works
There are several methods to determine the market value of an enterprise. Business valuation methods are categorized as market-based methods, income-based methods, asset-based methods, and hybrid methods. You can select any one of these methods depending on the particular valuation needed for an organization.
The valuation process can basically be divided into three segments - valuation rules, valuation factors, and valuation reports. Valuation rules is when all details are collected, organized, analyzed and integrated into the system. Valuation factors is when data elements are assessed by an expert according to the business carried out in an organization. Finally, valuation reports are prepared according to the data and factors collected.
Benefits
Benefits of business valuation stem from the types of approaches used. There are various benefits in knowing the value of business. Sometimes the accounting forecasts and balance sheets may provide misleading statements to managers. Here, a business valuation acts as a barometer in checking the exact position of the company. Business valuation also helps in ascertaining the interest rates and the value of gift tax. Apart from these, they also help in obtaining additional loans for new businesses.
Costs
The cost of business valuation varies significantly with the size and nature of occupation carried out in the organization. The complexity of the business also is a determining factor of cost. Other factors include business cash flow, the age of the business, owner involvement, revenue, ability of vendor financing, and the profitability of the business. In general, the cost of valuation can vary from a minimum of $1,500 to several thousand dollars.
Timing
The details of trading, profit and loss account, balance sheets, and other financial statements must be duly checked every month; this is called the monthly report. A company also has to prepare annual reports to know the financial position of the company at the end of the year and submit valuation reports at the end of every fiscal year.
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