Valuation approaches determine the value of an investment, with income, asset, and market valuation being the most common. Business owners and investors use it during year-end valuations or when selling. Values are flexible and personal biases can play a role, so hiring a professional is preferable.
A valuation approach is one of several common and widely accepted methods of determining the value of an investment. It is most often used in small businesses, but it can also be used for stocks. The three most common types of valuation approaches are income approach, asset approach and market valuation approach. Business owners and investors often have to deal with valuation during year-end valuations or if the business is for sale.
In general, a valuation approach uses a combination of several methods to arrive at a final value. This approach is most often used when businesses are for sale. An appraisal can be performed by a business owner or by the potential buyer or investor. While business valuation is essential when a business is about to be sold, doing regular reviews can help a business assess its success and its place among other businesses like it.
A system that focuses on a company’s cash-making potential, the revenue valuation approach relies on a company’s ability to generate profit to identify its overall value. This valuation approach uses many different methods, all based on income, to determine the value of a business. Common income approach methods for appraisers include the cash flow method and the residual income method.
The asset approach determines overall value based on the assets the business or organization owns. Assets can include buildings, equipment, or intellectual property that add to the value of a business. Examples of intellectual property might be patents on inventions and designs that the company uses to conduct business, while business equipment might be computer equipment, vehicles, and machinery.
In addition to revenue and asset valuation, companies may also undergo a market valuation. This approach determines the value of a company based on the amount of sales of similar companies. The market assessment is based on sales data collected in the past.
Business valuations are not absolute. A company with almost no value according to one type of valuation approach may have a high value if a different method is used. For example, a technology company that makes little profit when examined by its cash flow may seem considerably more valuable when you take into account the value of the technology patents the company owns.
Values are flexible, depending on the methods used to reach them and the choices made by the evaluator. In addition to the different valuation methods used, sometimes the personal biases of the valuer can play a role in how a company is valued. Still, in most cases, hiring an appraisal professional is preferable to an owner performing his own business appraisal. In addition to the valuer’s greater knowledge of methods, an owner is generally not able to view his own business as objectively as an outside party.
Asset Smart.
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