Business Valuation

Income (Income-Based) Approach

A general way of determining a value using one or more methods that convert anticipated economic benefits into a present single amount.

Goodwill

An intangible asset arising as a result of name, reputation, customer loyalty, location, products, and similar factors not separately identified.

Nonoperating Asset

Assets not necessary to ongoing operations of the business enterprise.

Normalized Financial Statements

Financial statements that have been amended to omit anomalies.

Appraisal:

Opinion about the worth of something.

Enhanced Earning Capacity

The enhancement of an individual's ability to earn over and above what would be earned following a so called normal career path resulting from joint efforts over the life of the marriage.

Cost of Capital

The expected rate of return that the market requires in order to attract funds to a particular investment.

Equity

The owner's interest in property after deduction of all liabilities.

Goodwill Value:

The value attributable to goodwill.

Investment Value

The value to a particular investor based on individual investment requirements and expectations.

Valuation Method

Within approaches, a specific way to determine value.

What are the 4 approaches to valuation?

1. Asset (Asset-Based) Approach 2. Cost Approach 3. Income (Income-Based) Approach 4. Market (Market-Based) Approach

Asset-Based Approach

A GENERAL way of determining value based on the value of the assets net of liabilities.

Minority Discount

A discount for lack of control applicable to a minority interest.

Value:

A fair return for something exchanged.

Valuation Approach

A general way of determining a value indication of a business, business ownership interest, security, or intangible asset using one or more valuation methods.

Rule of Thumb

A mathematical formula developed from the relationship between price and certain variables based on experience, observation, hearsay, or a combination of these; usually industry specific.

Earning Capacity

A person's ability or power to earn money, given the person's talent, skills, training and experience.

Risk Premium

A rate of return added to a risk-free rate to reflect risk.

Discount Rate

A rate of return used to convert a future monetary sum into present value.

Fair Value:

A value that looks to fairly compensate the departing party for that which has been unwillingly taken from him.

Adjusted Book Value Method

All assets and liabilities are adjusted to FMV and netted out.

Premise of Value

An assumption regarding the most likely set of transactional circumstances that may be applicable to the subject valuation; for example, going concern, liquidation.

Going Concern:

An ongoing operating business.

Cash Flow

Cash that is generated over a period of time by a business.

How much weight should buy-sell agreements get:

In some FMV states they get no weight, b/c the business may not be worth what the buy-sell is acquiring the interest for; other states it may get a lot of weight b/c the share holder is not going to get anything more for the ownership interest than what is set forth in the buy-sell; but the continuation of employment has value, so why should a buy-sell apply at all?

Economic Benefits

Inflows such as revenues, net income, net cash flows, etc.

How is goodwill treated in an Investment Value:

It is all included, personal and commercial b/c the owner is not leaving; the business is an ongoing concern

Do professional practices have goodwill and if so, is it included in the value of the business?

It is more commercial goodwill and it is included in the value

The money you get for a con-compete agreement, is it a marital asset?

Most states say "no" because it is to replace earnings.

Do you need to determine the value of personal goodwill in intrinsic value?

No, b/c the person is not leaving.

Do discounts and deductions for goodwill apply to a Fair Value?

No, it would be a windfall to the party continuing to enjoy the business.

Intangible Assets

Nonphysical assets such as franchises, trademarks, patents, copyrights, goodwill, equities, mineral rights, securities and contracts (as distinguished from physical assets) that grant rights and privileges and have value for the owner.

Tangible Assets

Physical assets (such as cash, accounts receivable, inventory, property, plant and equipment, etc.)

What is the difference b/t price and value?

Price is what you pay; value is what you hope to get.

Excess Earnings

That amount of anticipated economic benefits that exceeds an appropriate rate of return.

Marketability

The ability to quickly convert property to cash at minimal cost.

Business Valuation

The act or process of determining the value of a business enterprise or ownership interest therein.

Standard of Value

The identification of the type of value being utilized in a specific engagement; for example, fair market value, fair value, investment value.

Required Rate of Return

The minimum rate of return acceptable to an investor.

Liquidation Value

The net amount that would be realized if the business is terminated and the assets are sold piecemeal. It can be either "orderly" or "forced."

Economic Life

The period of time over which property may generate economic benefits.

Fair Market Value

The price, expressed in terms of cash equivalents, at which property would change hands between a hypothetical willing and able buyer and a hypothetical willing and able seller, acting at arms length in an open and unrestricted market, when neither is under compulsion to buy or sell and when both have reasonable knowledge of the relevant facts.

Risk-Free Rate

The rate of return available in the market on an investment free of default risk.

Valuation Date

The specific point in time as of which the valuator's opinion of value applies (also referred to as "Effective Date" or "Appraisal Date").

Invested Capital

The sum of equity and debt in a business enterprise. Debt is typically (a) all interest-bearing debt or (b) long-term interest-bearing debt. When the term is used, it should be supplemented by a specific definition in the given valuation context.

Valuation Procedure

The technique of performing the steps of an appraisal method.

Adjusted Net Asset Method

The valuation process which produces an estimate of value by adjusting the company's assets and liabilities to market value, and subsequently subtracting those liabilities from the assets.

Going Concern Value

The value of a business that is expected to continue to operate into the future. The intangible elements result from factors such as having a trained work force, an operational plant, and the necessary licenses, systems, and procedures in place.

Intrinsic Value

The value that an investor considers, on the basis of an evaluation or available facts, to be the "true" or "real" value that will become the market value when other investors each the same conclusion.

Value to Holder Premise

When a case speaks of a pro-rata portion of value as a going concern, the rejection of lack of control and marketability discounts or the unwillingness of a buyer or seller.

Net Book Value

With respect to a business enterprise, the difference between total assets (net of accumulated depreciation, depletion, and amortization) and total liabilities as they appear on the balance sheet (synonymous with Shareholder's Equity). With respect to a specific asset, the capitalized cost less accumulated amortization or depreciation as it appears on the books of account of the business enterprise.

What are the characteristics of a Fair Value Valuation:

not always a willing buyer or seller; the buyer is not under a compulsion to buy, but the seller is under compulsion to sell; no assumptions of equal reasonable knowledge; it is a concept of fairness to the person who has had something taken from them; further it is an ongoing concern that has inherent value to the person staying although that may not be marketable, it has value to that person

Liquidity:

the ability to quickly convert property to cash or ability to pay a liability

What is the difference b/t going concern and business goodwill?

Going concern value: is the intangible value attached to the PHYSICAL ASSETS of the business including the business's fixtures, equipment and personnel. Business goodwill: not concerned with tangible assets; it can be viewed as the excess earnings produced due to the company's reputation and skill.

In states that have held that professional goodwill is a marital asset, what valuation method is used?

Intrinsic and the factors you consider are age and health of the professional, the professional's demonstrated earning power, the professional's reputation in the community for judgment, skill and knowledge; the professional's comparative business success, the nature and duration of the professional's practice

Control

The power to direct the management and policies of a business enterprise.

Valuation

The process of determining the value of a business.

Present Value

The value, as of a specified date, of future economic benefits and/or proceeds from sale, calculated using an appropriate discount rate.

Capitalization of Earnings

A method of determining the value of a business by calculating the net present value of expected future profits or cash flows. This is an income-valuation approach that determines the value of a business by looking at the current benefit of realizing a cash flow now, rather than in the future.

Discounted Future Earnings Method:

A method of valuation where the present value of FUTURE ECONOMIC BENEFITS (not cash flow like in discounted cash flow method) is calculated using a discount rate.

Discounted Cash Flow Method:

A method of valuation where the present value of future expected net cash flows is calculated using a discount rate.

Market (Market-Based) Approach

A general way of determining a value indication of a business, business ownership interest, security, or intangible asset by using one or more methods that compare the subject to similar businesses, business ownership interests, securities, or intangible assets that have been sold.

Cost Approach

A general way of determining a value indication of an individual asset by quantifying the amount of money required to replace the future service capability of that asset.

Excess Earnings Method

A specific way of determining a value of a business, determined by adding a) the value of the assets derived by capitalizing excess earnings and b) the value of the selected asset base.

Rate of Return

An amount of income (loss) and/or change in value realized or anticipated on an investment, expressed as a percentage of that investment.

Control Premium

An amount or a percentage by which the pro-rata value of a controlling interest exceeds the pro-rata value of a non-controlling interest in a business enterprise to reflect the power of control.

Discount for Lack of Control

An amount or percentage deducted from the pro rata share of value of 100% of an equity interest in a business to reflect the absence of some or all of the powers of control.

Key Person Discount

An amount or percentage deducted from the value of an ownership interest to reflect the reduction in value resulting from the actual or potential loss of a key person in a business enterprise.

Discount for Lack of Marketability

An amount or percentage deducted from the value of an ownership interest to reflect the relative absence of marketability.

Non-Compete Agreement:

An intangible asset based on a contractual agreement to not compete with the purchaser in a defined industry for a specified period of time in a geographically specified area. You are paying for personal goodwill that would otherwise take away clients.

Capitalization Rate

Any divisor (usually expressed as a percentage) used to convert anticipated economic benefits of a single period into value.

Discounted Future Earnings

Discounts the projected future earnings of the company to determine the fair market value at the valuation date.

Capital Structure

The composition of the invested capital of a business enterprise; the mix of debt and equity financing.