Fair Market Value Business Valuation
Objective of this service
This service program helps you to expertly assess the market valuation of a company, which is a framework for business analysis and valuation using financial statements.
How to determine market value of a business? Fair market valuation of a company is simply calculated as the fair value of the business assets minus the external liabilities owed. The key here is to determine fair value, especially of assets, since the fair value may differ significantly from acquisition value (for non-depreciating assets) and recorded value (for depreciating assets).
Market approach of business valuation: is used to determine the appraisal value of the business, intangible assets, business ownership interest, or security by considering the market prices of comparable assets or businesses that have been sold recently, or those that are still available. Price-related indicators like sales, book values, and price-to-earnings are generally used here.
Challenges while assessing Market Value Business Valuation
How to calculate business valuation? Commonly used market value valuation methods include valuation ratios, discounted cash flow (DCF) analysis, and internal rate of return (IRR). A widely employed method for valuing a private company is comparable company analysis, which compares the valuation ratios of a private company to a comparable public company. The following are the various challenges and obstacles encountered while assessing the fair market valuation of a company:
- Intangible Assets: can make the fair market valuation of a company quite dicey. Intellectual property, i.e. patents, trademarks, and copyrights can impact the market valuation of a company, since intangible assets are notoriously difficult to estimate.
- Product Diversity: When it comes to the market valuation of a company, businesses having only one product or service in their portfolio are at much higher risk than a business that has multiple products or services. Diversified products and service portfolios will get higher ratings in market valuations.
- ESOP Ownership: A company that is owned by its employees can present market evaluators with a real challenge. Whether partially or completely owned by employees, this situation can limit market value valuation methods, which in turn can impact value.
- Critical Supply Sources: If a business whose market valuation is being done is particularly susceptible to supply disruptions and shortages (especially those companies using a single supplier to achieve a low-cost competitive advantage), then the market evaluator has to take notice of the same. This is because a supply disruption could lead to the constant shifting of the business’ competitive edge, and greater vulnerability to market forces. When supply is at risk then there could be a delivery disruption and market evaluators will have to factor this in, for a fair market valuation of a company.
- Customer Focus: If a company has just one or two key customers, which is often the case for many small businesses, this can be seen as a serious problem and challenge for the market approach of business valuation.
- Company or Industry Life Cycle: A business, which by its very nature, could be facing obsolescence and reaching the end of the industry life cycle will also face significant challenges during the market evaluation assessment process since it has bleak prospects.
- Talent Potential: In addition to market value valuation methods, the company’s talent also plays a role in business valuation. The more relevant experience and skillsets the business leadership possesses, the more likelihood of a good product/market fit. Most investors and market evaluators prefer to see early evidence of market traction, with talent playing a pivotal role in establishing the same. A well-knit quality team with high profile, key members will always merit a higher valuation, since they will be able to build a successful company (or so their track record would suggest).
- State of the Economy: When the economy is not doing too well (i.e. during a recession, which has hit countries after the advent of COVID-19), there will be less investor appetite in a high-risk asset class such as early-stage companies. Consequently, it is likely that the market valuations during this period will be lower than when the broader global economy is performing well.
- Other challenges: Other obstacles can also negatively impact the fair market valuation of a company. This can include various issues like out-of-date inventory, an over-reliance on short-duration contracts, requirement for third-party or franchise approvals for selling the company, etc.
Why DFX for Business Valuation
Based out of Pune, India, Digital Finance Experts (DFX) is one of India’s premier business management consultants offering a wide range of industry-ready services & solutions, like providing customized business and market valuation of a company for potential investors. The company has years of proven expertise in all facets of project feasibility and business valuation and is ably helmed by experienced financial and business professionals. DFX and its sister organizations like YRC have been strategic and transformational partners for top-tier clients over several years now, expertly guiding potential investors on how to calculate business valuation. As your trusted business and market valuation specialist, DFX can help you to successfully assess the fair market valuation of a company, providing you with the perfect launch pad to kick-start operations and navigate all hurdles along the way. If you are an aspiring investor looking out for the best business valuation possible, please connect with DFX now to open a window of opportunity, and firmly entrench yourself on the road to success!
Business valuation for fair market value involves detailed online web-based research, to make a quantitative and qualitative assessment of the state and size of the market, industry, and economy, to help identify the unique strategic positioning and competitive advantage of the business. The market size has to be analysed both in terms of volume and value, along with the target customer segments, buying patterns, growth, profitability, cost structure, distributional channels and trends, in the context of the list of competitors. Other key aspects which can be researched on the internet include consumer demographics and profiling (which consists of data on the unique identities and characteristics of individual customers and buyers, i.e., basic information like gender, age, marital status, education, and geographical location) and the economic environment regarding barriers to entry and regulation.
Competitive Advantage Quadrant axis maps are generally competitive positioning maps, providing insights into the target market's competitive landscape, along with valuable inputs into USPs that can make the business product or service unique from that of the competitors. Businesses use these tools to benchmark themselves against competitors, dissect competitors’ strategies, look for growth opportunities and forecast the market’s future. Various types of quadrant axis maps can be used for competitive benchmarking, i.e. a SWOT (Strength, Weaknesses, Opportunities, and Threats) analysis for competitors, the PEST (i.e. Political, economic, social, and technological factor) analysis for competitive research, Porter’s Five Forces Analysis (Suppliers, Buyers, Entry/Exit Barriers, Substitutes, and Rivalry) to determine an industry’s profitability and attractiveness, analysing competitor’s market positioning through a value proposition canvas (which helps develop products that match customer needs and consists of the customer profile and business value proposition), a perceptual map, a radar chart (where competitor products are compared based on different attributes), and a competitor price analysis.
Apart from the competitors, the other players in the target marketplace are:
- Customers: both major and minor customers, and current and potential buyers are included here.
- Suppliers: would include both major and minor ones, who may sell directly to the market or competition. They have to be kept aligned with the company's market strategy.
- Complementors: are those who sell non-competing products and which generally boost business sales.
- Substitutors: are like competitors but their products are not the same. A critical attribute of a substitutor group is that they all seek the same share of the market pie.
- Regulators: consist of organizations promoting effective market competition. In any industry, regulatory standards are often helpful to ensure product safety, helping suppliers create compatible parts that enable economies of scale, conform to the safety and ecological standards, and lower product prices.
- Influencers: are groups who have no direct control but who seek to promote their agendas by influencing players in the marketplace. Lobby groups who represent certain business interests may also be involved, although often indirectly.
Market share in competitive analysis is the percentage of total industry sales generated by a particular company. Market share can be estimated by dividing the company's sales over a specified time by the total industry sales over the same period. This metric is used to give a general idea of the company size in relation to its market and its competitors. The industry market leader is the company with the largest market share. Thus, the specific business or company's market share is its portion of total sales with regard to the market or industry in which it operates. To calculate the company's market share, one has to first determine the period for analysis, which can be a fiscal quarter, year, or multiple years.
Sales Volume Analysis: is a detailed study of a company's sales, in terms of units or revenue, for a specified period. The analysis of sales volume (by sales region or territory, industry, customer type, etc.) is used as a powerful tool in determining the effectiveness of the selling effort.
Margin Growth: To calculate gross margin, one has to subtract the Cost of Goods Sold (COGS) from total revenue and divide that number by total revenue (Gross Margin = (Total Revenue – Cost of Goods Sold)/Total Revenue). The formula to calculate gross margin as a percentage is Gross Margin = (Total Revenue – Cost of Goods Sold)/Total Revenue x 100. With regard to volumes and margin growth, there is generally a trade-off. Positive and ever-increasing operating margins are considered better than lower operating ones. Operating margin is widely considered as one of the key accounting measurements of operational efficiency.
Balance Sheet or BS: is the company's financial statement and includes assets, liabilities, equity capital, total debt, etc. at a given point in time. The balance sheet includes assets and liabilities on each side. For the balance sheet to reflect the true picture, both heads (liabilities & assets) should match (i.e., Assets = Liabilities + Equity).
Profit & Loss statement or P&L: is a financial statement that summarizes the company revenues, costs, and expenses incurred during a specified period, usually a fiscal quarter or year. The P&L statement is synonymous with the income statement. The P&L statement can also be referred to as a statement of profit and loss, income statement, statement of operations, statement of financial results or income earnings statement, or expense statement.
Cash Flow or CF: is a company's financial statement that summarizes the amount of cash and cash equivalent entering and exiting a company. The cash flow statement measures how well a company manages its cash position, implying how well the company generates cash to pay its debt obligations and fund its operating expenses.
Return on Capital Employed or ROCE: This is a financial ratio that can be used in assessing the company's profitability and capital efficiency. Thus, this ratio can help to understand how well a company is generating profits from its capital, as it is employed or put to use. A high and stable ROCE is an indicator of a good company, as it shows that the business is consistently making optimal use of its resources.
Compound Annual Growth Rate or CAGR: is used to calculate the annual growth of the business or investment over a specific period. In other words, CAGR is used to determine the exact percentage of the returns from the investments each year, across the investment tenure.
Earnings Before Interest, Taxes, Depreciation, and Amortization or EBITDA: is a metric used to evaluate a company's operating performance. It can be seen as a proxy for cash flow. In finance, the term is used to describe the amount of cash (currency) that is generated or consumed by the business in a specified period.
Macro Environmental Factors: The macro-environment is considered to be an external or general environment that is often outside of the retailer’s control and is typical of a larger scale, high-level economic, industry, and overall market scenario. The main macro-environment factors are demographic, economic, natural, socio-cultural, technological, and political-legal. These elements are more complex and are regional, national or global in nature.
Micro Environmental Factors: The micro-environment is essentially an organization or company’s internal, immediate or nearby environment in which it operates. The key micro factors are the customers, suppliers, media, employees, competitors, shareholders, and stakeholders, which could be the government or regulatory bodies. Generally speaking, the micro-environment is less complex and local to the business and every business owner should consider these factors to be affecting the retail business.
SWOT analysis: is a planning tool that helps organizations to build a strategic plan to meet desired goals, improve and streamline operations and keep the company relevant in the market. In a SWOT analysis, organizations identify strengths, weaknesses, opportunities, and threats (the four factors SWOT represents) specific to organizational growth, products and services, business objectives, and overall market competition.
Thus, the key purpose of a SWOT analysis is to identify market-friendly strategies that help create a specific business model that can best align an organization’s resources and capabilities to the environmental requirements in which the business operates. The principles and culture of a SWOT analysis are to build a foundation for evaluating the internal potential and limitations, and the likely opportunities and threats in the external environment. It views all positive and negative factors inside and outside the firm's culture that can have a bearing on its success. A consistent study of the environment in which the firm operates helps in forecasting/predicting the evolving trends, suitably including them in the company's decision-making process.
Discounted cash flow (DCF) approach: is a key business valuation method for fair market value that is used to estimate the value of an investment based on its expected future cash flows. The DCF analysis tries to estimate the value of an investment as of today, based on future projections of how much money it will generate in the coming period. This applies to investor investment decisions on business entities, such as a company acquisition or an investment in a technology start-up, and also for entrepreneurs and business managers who have to make informed decisions on financial aspects like capital budgeting or operating expenses, with regard to the inauguration of a new factory or purchasing or leasing new equipment. The present value of the expected future cash flows is calculated by using a discount rate to calculate the discounted cash flow (DCF). If the discounted cash flow (DCF) is above the current investment cost, the business opportunity could result in positive returns.
The Net Asset-based approach: identifies the company’s net assets by subtracting liabilities from assets. This business valuation for fair market value approach focuses on the company’s net asset value (NAV), or the fair market value of its total assets minus its total liabilities, to determine what it would cost to recreate the business. This asset-based valuation approach is less complex and easier to apply, providing an indication of the downside risk, with the value of the underlying tangible assets impacting the overall business valuation. However, it is important to note here that while the assessment of the underlying tangible assets and the liquidity value is a useful tool when deciding on the value of a business, these do not necessarily represent the true value of a going concern.
During a business evaluation, detailed comparison and analysis (including the financials) of the recent listed or private deals, strategic mergers & acquisitions, agreements, co-branding initiatives, tie-ups, and collaborations of the company is essential. Importantly, we have to also assess the efficacy of the evaluated company’s overall strategic planning process, as well as study the company’s overall value creation plan for these deals. The success parameters for all these deals entered into by the company have to be benchmarked with the industry’s measurement norms, taking existing shareholder and stakeholder feedback (on these deals) into consideration. The vision and mission statement, and the skills of the company’s deal advisory and negotiating team also have to be analysed thoroughly to get the correct picture of the entity’s business value ecosystem. Last but not the least, we have to also examine the company’s deal management structure, corporate culture, and the overall talent engagement mechanism for such deals.
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