Ozzias Villaver Jr., Ed.D. | Negosentro.com
As a firm grows and becomes more profitable, the owner needs to know the value of its business. In some situations, a profitable business may lose value over time. Therefore, being aware of its value is important in the management of a business. As Randall Lane said, “knowing your net worth (value) as a private business owner provides a useful snapshot of where your company stands, what option it has, and how it can improve long-term.”
Terry McRae, owner of Hornblower Yatchts in San Francisco, said, “knowing the value of your firm keeps you out of trouble. It keeps you from being out there, believing that what isn’t true. And it gives you a better sense for using what resources are there. It’s helpful (for making) better long-term decisions.”
Three basic ways for valuing a business.
1. Asset-based valuation, which determines the value of a business by estimating the value of its assets through (a) the modified book value of assets, i.e. determining the value of a business by adjusting the based value to reflect obvious differences between the historical cost and the current market value of the assets; (b) the replacement value of assets, i.e. determining the value of a business by estimating the cost of replacing the firm’s assets; (c) the liquidation way which values estimating the amount of money that would be received if the firm ended its operations and liquidated its assets.
2. Valuation based on comparables which determines the value of a business by considering the actual market prices of firms that are similar to the firm being valued.
3. Cash-flow based valuation, which determines the value of a business by estimating the amount and timing of its future cash flows. This evaluation requires explicit assumptions of the firm’s future growth rates, its profits margins (profits to sales), and the appropriate discount rate (required rate return). This requires the estimator to examine more carefully why the firm has value.
Indeed, at certain times, a businessman needs to determine the value of his business.
(Reference: Justin G. Longenecker et al. Small Business Management. Ohio, USA, Thomson South-Western, @ 2006)