1.
The Income Approach,
2. The Asset Based Approach, and
3. The Market Approach. |
Within
each of these approaches there are a lot of accepted valuation
techniques usable for use by the appraiser. Appraisal standards
indicate that an appraiser could look at as many methods as
may be relevant to the facts and conditions of the holding
being appraised. It is then up to the appraiser's educated
judgment as to how these values will be reconciled in inferring
a final appraisal of value.
The
Income Approach
The income approach,
occasionally referred to as the investment value approach,
is an income orientated approach instead of an asset or market
oriented approach. This approach presumes that an investor
could invest in a property with like investment characteristics,
although not of necessity the identical business enterprise.
The calculations, applying the income approach determine that
the value of the business is equal to the present value of
the future benefit flow to the owners. This is achieved by
either capitalizing a single historical period income stream
or by discounting a series of income streams supported with
a multi-period forecast.
Because calculating
the future income of a business is considered to be speculative,
historical information is normally used as a beginning point
in numerous of the accepted methods under the premise that
history will repeat itself. The future can't be dismissed,
however, since valuation is a prognostication of the future.
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The
Asset Based Approach
The asset based approach, occasionally named to as the cost approach, is an asset oriented approach instead of a market oriented approach. Each component part of a business enterprise is valued individually, and added together to derive the full value of the enterprise.
The appraiser estimates value, employing this approach, by approximating the cost of replicating or replacing the individual components of the business enterprise property being appraised, detail by detail, asset by asset.
The physical assets of the business are appraised using this approach; although it can't be employed alone as many businesses have intangible asset value as well, to which this method cannot easily be utilized.
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The
Market Approach
The market approach is central to valuation as fair market value is ascertained by the market. Under this approach, the appraiser endeavors to determine guideline companies traded on a public securities market, in a equivalent or like industry because the appraisal subject that provides the appraiser with the ability to make a comparison between the pricing multiples that the public company trades at and the multiple that is viewed as pertinent for the appraisal subject.
A
different basic variation of this approach is to locate entire
companies that have been purchased and sold in the market,
publicly traded or closely-held, that allows for the appraiser
the ability to ascertain the multiples that resulted from
the transaction. These multiples can then be employed to the
appraisal subject, with or without modification, depending
on the circumstances.
Liquidation
Value
Liquidation
value assumes that a business enterprise has higher value
if its individual assets are sold to the highest bidder and
the company discontinues operating as a going concern.
Shannon
Pratt, a well known authority in business appraisal states:
Liquidation
value is, in essence, the antithesis of going-concern value.
Liquidation value means the net amount the owner can realize
if the business is terminated and the assets sold off in piecemeal.2
He adds,
...it
is essential to recognize all costs associated with the enterprises
liquidation. These costs normally include commissions, the
administrative
cost of keeping the company alive until the liquidation is
completed, taxes
and legal and accounting costs. Also, in computing the present
value of a
business on a liquidation basis, it is necessary to discount
the estimated net
proceeds at a rate reflecting the risk involved, from the
time the net proceeds
are expected to be received, back to the valuation date.3
Pratt
concludes by stating:
For these
reasons, the liquidation value of the business as a whole
normally is less than the sum of the liquidation proceeds
of the underlying assets.4
______________________________
2 Shannon
Pratt, Valuing a Business: The Analysis and Appraisal of Closely
Held Companies, 2nd edition (Illinois: Dow Jones-lrwin, 1989):
29.
3 Ibid.
4Ibid.
Small
Business Valuation Methods
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