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There Are 2 Methods of Valuation of A Business

There are two main methods for valuing a business: the assets-based method which focuses on the net value of assets, and the earnings-based method which correlates the firm's value to its potential future earnings or cash flow generating capacity. The earnings-based approach can be based on accounting earnings or cash flow. Valuation can also use the assets-based approach by determining the value of assets to arrive at equity share valuation. A key earnings-based approach is calculating free cash flows to the firm (FCFF) by taking after-tax operating earnings plus non-cash items, less investments in long-term assets and working capital. The value of the firm is the present value of FCFF, using the weighted cost of

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35 views7 pages

There Are 2 Methods of Valuation of A Business

There are two main methods for valuing a business: the assets-based method which focuses on the net value of assets, and the earnings-based method which correlates the firm's value to its potential future earnings or cash flow generating capacity. The earnings-based approach can be based on accounting earnings or cash flow. Valuation can also use the assets-based approach by determining the value of assets to arrive at equity share valuation. A key earnings-based approach is calculating free cash flows to the firm (FCFF) by taking after-tax operating earnings plus non-cash items, less investments in long-term assets and working capital. The value of the firm is the present value of FCFF, using the weighted cost of

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nehasavla_04
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPT, PDF, TXT or read online on Scribd
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There are 2 methods of valuation of a business

1. Assets based method which focuses on net value of


assets.
2. Earnings based method correlates the firms value to
its potential future earnings or cash flow generating
capacity
Earnings based on accounting basis
Earnings based on cash flow basis

Assets based approach to valuation
Value of assets determined to arrive at equity share
valuation
NAV per share could be arrived on
1. Book value basis
2. Market value basis
3. Liquidation value basis
Earnings Based approach to valuation
1. Earnings measure based on accounting
capitalisation method
2. Price Earnings Ratio
3. Earnings measure on cash flow basis(DCF method)
4. Earnings measure on free cash flow basis(FCFF)
Earnings measure on free cash flow basis(FCFF)
1. This method reflects the cash flows generated by a
companys operations for all the providers of
capital(debt and equity)
2. This method takes into account after tax non
operating income as well as adjustments for non
operating assets.
Calculation of Free Cash Flows
After tax operating earnings
Plus: Depreciation, amortisation and other non cash items
Less: Investment in long term assets
Less Investment in operating net working capital
=Operating free cash flows
Plus: After tax non operating income
Plus: Decrease in non operating Assets,eg investment securities
=Free cash flows to Firm(FCFF)

The value of the firm: Present value of FCFF
FCFFs are available to all the capital providers of a
corporate enterprise, the discount rate applied would
be the weighted cost of capital.
The equity valuation can be deducted by subtracting the
total external liabilities from the value of the firm.


Value of a firm= present value of cash flows during explicit
forecast period + continuing value of the firm



Continuing value of a firm=Free cash flow
(T+1)
k
0
- g


g
= expected growth rate in normal level of net operating
profits less adjusted taxes

k0
= weighted average cost of capital

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