As we plan the sale of our business, it is essential to calculate its value, so we understand what price we should expect and know the scope of our area of play when the time for negotiation comes.
Using multiple valuation methods and comparing the results is what we call the valuation football field. The combination of numerous methods of valuation is a helpful tool that gives us an overview of what your company could be worth, depending on the perspective of each method. This will come in handy when negotiating with your potential buyer and getting the best possible price for your company.
Valuating a company is not an exact science
It is difficult to pinpoint the actual value of a company. The football-field-style graphic below in the form of a floating bar chart can help summarise a company’s various ranges of value determined by several methods of appraisal and observe the possibilities when negotiating.
For example, imagine your company’s current price is 350M, but you want to know its value. When applying the valuation football field, we notice that, depending on the valuation method, the value ranges show how high can the price for your company be, letting you know how much potential leeway you’ll have when negotiating with the buyer.
This graphic shows that each valuation method has resulted in a different value range, with the highest at lowest being 50M above the current price and a 500M ceiling. This means that you could get as much as 500M for your company, representing 150M over its current price.
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How can the valuation football field work in my favour?
During the valuation of your company, you are estimating its value. You have available a plethora of methods that can determine a value range of what your company may be worth. Using only one of these methods may provide a narrow view of what your company is worth, like a horse wearing blinders, utterly unaware of its surroundings.
It’s like negotiating based on one valuation method and then realising that you could’ve arranged almost 25% more for your company if you had used the valuation field. Imagine you’re a general; would you rather have intel informing you about one of your enemy’s strategies or as many strategies as possible? This is what the valuation football field provides, as much conceivable value ranges as possible.
In the end, these are all assumptions; as we’ve stated before, science is not exact. The benefit of the valuation football field is that it helps you reduce the margin of error when valuating your company and help you in the decision-making when selecting the best valuation method to get the best possible price for the sale.
What valuation methods can I apply to the valuation football field?
Your valuation football field’s size will depend on how meticulous you want to be in your overview of the different valuation methods. Each method’s result may vary from one another.
Comparable Company Method (CCA)
This is when you evaluate your company’s value by utilising the variables that companies similar to yours have. Use this to determine their value, like sector, size, growth rate, margins, and how profitable they are.
Comparable Transaction Method (CTA)
This method involves analysing and estimating your company’s value by comparing prices paid in transactions for similar companies.
Discounted Cash Flow (DFC)
Using this method of appraisal you will determine the company’s value based on its future cash flows. You apply a discount rate to each year’s projection to calculate the result according to the present value of money.
For example, $1 today is worth $1, but a projected cash flow. In five years of $5 with a discount rate of 0.683 tells us that those $5 today are worth $3.4.
Free Cash Flow (FCF)
Contrary to DCF, this is the value of a company based on the net profit. Meaning the amount the company generates after accounting for the costs of operations and maintenance of capital assets.
For example, if a company has a cash flow of $10 and spends $3.5 to stay in business. The remaining $6.5 is free to be reinvested.
Leveraged buyout (LBO)
This projects its value by analysing the contributions made by the alternative sources to the net Internal Rate of Return.
Breakup Analysis (BA)
With this you look at your lines of business, which means that its components’ determine your company’s value.
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Make sure you get the best price for your company
Changing how much you get for your company will depend on the valuation process. A company that does not go through the preparation process is very likely doomed to fail. To avoid this, we’ve compiled in our e-book, “Errors during the sale of a company: The Preparation”, the most common mistakes entrepreneurs make when preparing their companies for sale.