The Three Business Valuation Methods are as follows:
1. The Asset-Based Approach
- Asset-based business valuations can be done on a going concern or on a liquidation basis.
A going concern asset-based approach lists the business's net balance sheet value of its assets and subtracts the value of its liabilities.
A liquidation asset-based approach determines the net cash that would be received if all assets were sold and liabilities paid off.
2. The Income Approach
- Predicated on the idea that a business's true value lies in its ability to produce wealth in the future.
- A valuator determines an expected level of cash flow for the company using a company's record of past earnings, normalizes them for unusual revenue or expenses, and multiplies the expected normalized cash flows by a capitalization factor. The capitalization factor is a reflection of what rate of return a reasonable purchaser would expect on the investment, as well as a measure of the risk that the expected earnings will not be achieved.
- Discounted Future Earnings is another earning value approach to business valuation where instead of an average of past earnings, an average of the trend of predicted future earnings is used and divided by the capitalization factor.
3. The Market Approach
- Market value approaches to business valuation attempt to establish the value of your business by comparing your business to similar businesses that have recently sold. Obviously, this method is only going to work well if there are a sufficient number of similar businesses to compare.
Although the Earning Value Approach is the most popular business valuation method, for most businesses, some combination of business valuation methods will be the fairest way to set a selling price.