A company’s worth (Market Value)

A company’s worth (Market Value)

Looking at a company’s valuation is normally associated with looking up a stock price.  But for anyone who is looking to purchase or start a business, understanding a company’s worth is essential.  Valuation by comparing the competitors, valuing assets (going concern or liquidation), discounted cash flow are the obvious methods.  Worthy of consideration while determining the valuation is what would the company cost as a startup or using industry specific multipliers and multiplying for revenue projections.  Ultimately someone could use surplus of debt to determine a company valuation.   Any of these “are effective methods for establishing a company’s value” (Shreman, 2019).

The valuation can be determined through many different models like rules of thumb or assumptions in capital structure.  But these assumptions may be flawed, and a second opinion is always worth considering ((10 Common Mistakes in Business Valuation (and How to Avoid Them), 2019).  Getting the valuation right is critical because if the company’s valuation is not accurate then real capital is at risk.  One statement that seems to show up in various forms in the course material has been very poignant, “A safe dollar is worth more than a risky one” (Brealey et al., 2020, p. 23).

Factors influencing valuation

A very popular approach is the value investing philosophy that is championed by Warren Buffett and considers the following factors (Radcliff, 2020):

• How much debt does the company have?
• How are profit margins?
• How unique are the company’s products?
• How much of a discount are shares trading at?

A more fundamental approach to identifying valuation factors includes considering, “changes in interest rates, industrial production, inflation, foreign exchange rates, and energy costs” (Brealey et al., 2020, p. 355).

A company’s worth by the numbers (Book Value)

Our course material lists the “major financial statements as the balance sheet, the income statement, and the statement of cash flows” (Brealey et al., 2020, p. 57).  Financial statements capture the historical transactions or net asset value of the company and are not intended to place a market value on the business.  The book value should always be more stable than the market value which may fluctuate based on what someone is “willing” to pay for the stock.  Also, the book value is reported quarterly or annually, and market values may change moment to moment.  Comparing the predictable book value to the fluctuating market value provides the insight investors need to make decision on the real and potentially future worth of the company (Seth, 2021).

Creating value for the stakeholders

The Harvard Business Review lists 10 principals to create shareholder value.  These include not playing the earnings expectation game, making strategic decisions and acquisitions regardless of near-term earnings, returning cash to shareholders when no value-creating opportunities exist, and rewarding top performers.  The last principle is to provide investors with better disclosures on the financial reports (Rappaport, 2006).  The final principle makes the most sense as providing shareholder value also depends on allowing a financial manager to make clear financing decisions.

References

[1] Brealey, R., Myers, S., & Marcus, A. (2020). Fundamentals of Corporate Finance (10th ed.). McGraw-Hill Education. https://learn.liberty.edu/webapps/Bb-McGrawHill-BBLEARN/app/link/outbound?course_id=_701932_1&content_id=&action=CONNECT_SECTION&target=window

[2] 10 Common Mistakes in Business Valuation (and How to Avoid Them). (2019). CBIZ, Inc. Retrieved from https://www.cbiz.com/insights-resources/details/articleid/7415/10-common-mistakes-in-business-valuation-and-how-to-avoid-them

[3] Sherman, F. (2019, November 26). How to Calculate the Valuation of a Company. Retrieved from https://smallbusiness.chron.com/calculate-valuation-company-23616.html

[4] Seth, S. (2021, January 17). Book Value vs. Market Value: What’s the Difference? Retrieved from https://www.investopedia.com/articles/investing/110613/market-value-versus-book-value.asp

[5] Rappaport, A. (2006, September). Ten Ways to Create Shareholder Value. Retrieved from https://hbr.org/2006/09/ten-ways-to-create-shareholder-value