valuation quiz
What are the three types of standards of value
FMV, Fair Value & Strategic/Investment Value
What are the key financial variables
I measure drugs
What does the I stand for in I measure drugs
Indentification and definition of appropriate benefit stream
What are the two lowest areas of risk
U.S. treasury obligations & A to C rated corporate bonds
Capitalization (Cap) rate
a divisor (or multiplier) used to convert defined stream of income to an indicated value, (the expected yield rate on an investment)
How many periods is discounting applied to
a finite number
The amount that will compensate an owner involuntarily deprived of property, commonly there is
a willing buyer may be more knowledgeable than the seller
Typical Normalizing adjustment
add back to owner perks
Terminal value
applicable when the projection includes a time of change followed by a time of sustainable long term growth
Valuator must determine which to use in regards to historical vs. projected income
are future expectation consistent with history and the purpose of valuation
Specific adjustment for inventory valuation
are there obsolete goods in inventory/ pricing
Investment value principle (value)=
benefit stream/(required rate of return)
Alternatives Principle
both buyer and seller have alternatives
What is the valuation using discount process
calculate PV of future projections for all years projected then capitalize the benefit stream in the final year of the projection = terminal value then reduce to PV
Discounting
calculates the present value of a stream of future income
___________ is the required "yield" on the investment'
capitalization/ discount rate
Historical vs. projected income consideration
changes in regulations
Normalized Financial Statement are used for what three things
comparison with industry data, making projections, & indication of true level of benefits
What are the two types of income for owners of a small business
compensation to work performed (day to day management), & return on investment
Willing Buyer & Selleer have no
compulsion to buy or sell
Typical Normalizing adjustment
consider if adjustments need to flow back to prior period
What is meant by the nature of interest being valued
controlling or non-controlling
Principle of Substitution (value)=
cost of equally desirable substitute
What does the D stand for in I measure drugs
determination of an appropriate capitalization/ discount rate
Capitalization Rate=
discount rate - long-term sustainable growth rate
Application of accounting principles results in
distortions of the economic status of the company
Normalized financial statements adjust to ______ reality and FS uses as a _____for this purpose
economic & starting point
Is a valuation for an entire or partial interest in a closely held business
either or
Non-Linear
estimated future benefits are expected to grow or decline at a variable rate
Investment Risk consideration
exit strategy
Historical vs. projected income consideration
expected economic changes
There is a direct relationship between what someone would pay for an investment and the ______& the ______
expected return and anticipated risks
Many consider fair value to be
fair market value without discounts
What standard of value is the focus of this class
fair market value; (FMV)
Linear
future benefits expected to remain constant or grow/decline at a constant rate
What are NCF considerations
future working capital needs, capital asset additions, & changes in long term debt necessary to support projected sales
What are the 4 different premises of value
going concern value, book value, liquidation value and replacement value
For non-linear projection methods, future benefits are expected to _____ or______at a _____rate
grow, decline & non-linear
What are examples of intangible elements of Going Concern Value a resultant
having a trained work force, an operational plant, necessary licenses, systems and procedures in place
What are assets generally recorded at
historical cost, net of any accumulated depreciation and/ or value allowances, and liabilities are generally recorded at face value
What are the three types of GAAP distortions
historical cost, revenue recognition principle, and matchin principle
Historical vs. projected income consideration
history may be considered more accurate than projections
What is meant by the purpose of valuation
i.e. if the valuation is subject to contractually agreed valuation method
Historical vs. projected income consideration
is a change in operations anticipated
Historical vs. projected income consideration
is company new
According to the FASB, fair value
is the price that would be received for an asset or paid to transfer a liability in a transaction between marketplace participants at the measurement date
What is the first step in any valuation engagement
is to determine the purpose of the valuation
What is the capitalization rate with no growth
it is equal to the discount rate
Investment Risk consideration
knowledge of investment
Historical vs. projected income consideration
management expectations
What does the M stand for in I measure drugs
measurement of appropriate benefit stream
Typical Normalizing adjustment
method of accounting (LIFO, FIFO)
What are the two components to defining the benefit stream
nature of interest being valued & purpose of valuation
Is book value a proper basis for business valuation
no
Willing Buyer & Seller
no specific person or company is buyer
What are personal preference assets
office space, autos, etc.
Liquidation can be either "____" or "____"
orderly or forced
Investment Risk consideration
owner time commitment
What are the four closely held business distortions
perks, understatement/overstatement of salaries, family members on payroll, personal preference assets
What are the four issues related to the use of Net Cash Flows
preferred for our purposes, represents what investors are really looking for, data used for discounts is based on net cash flows & NCF considerations
What are the other methods of projecting cash flows
projected growth rate (increasing at steady rate & trend-line)
A valuation takes into account both____and____tangible business being valued
quantitative and qualitative
Discount rate
rate of return to convert series of future income amounts to present value
In a Willing Buyer & Seller situation both parties have what kind of knowledge
reasonable knowledge of relevant facts
Replacement value
refers to the current cost of a similar new property having the nearest equivalent utility to the property being valued
Normalizing financial statements
refers to the process of indentifying and adjusting for financial data which may distort the financial results of a company
Two valuations prepared by objective and qualified valuators should show
relatively close valuation amounts
What value is linked most typically to property insurance coverage
replacement value
Typical Normalizing adjustment
restatement of other expenses to market
Typical Normalizing adjustment
restatement of owner salaries to market
Investors expect _____ on their investment
return
Investment Risk consideration
risk of attaining anticipated income/cash flow return
Investment Risk consideration
risk to principle
Specific adjustments for warranty liabilities
small companies do not record
All valuations require selection of a _____ __&_______
standard of value & premise of value
Historical vs. projected income consideration
state or other legal requirements
What are the two valuation purposes
tax valuations & non-tax valuations
Specific adjustment for depreciation
tax vs. FS vs. useful life (objective is to adjust to realistic method)
Value of an interest in a closely held business typically considered to be equal to
the future benefits what will be received from the business discounted at present at the appropriate discount rate
What premise of value is the focus of class
the going concern value
Liquidation value
the net amount that would be realized if the business terminated and the assets are sold piecemeal
What is the IRS definition of FMV
the price at which the property would change hands between a willing buyer and a willing seller, when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of relevant facts.
Definition of Going concern value
the value of a business enterprise that is expected to continue to operate into the indefinite future
Strategic/Investment Value
the value to a particular investor based on individual investment requirement and expectations
Risk affect investment value
there is a direct relationship between what someone would pay for an investment and the expected return and the anticipated risks
A valuation is a process
to establish a value
Fair value is a legal term left
to judicial interpretation
Book value=
total net assets - total liabilities
Typical Normalizing adjustment
transactions not expected in future (ex: discontinued operations)
Unweighted average
used when past earnings represented and no pattern indicating any year more representative than another
Weighted average
used when there is a pattern which can be extrapolated into the future
The valuation purpose can affect the
value
Terminal value
value of the company at the end of the last year for which the benefit stream was projected, (= capitalized earnings in last year reduced to PV at the valuation date)
What are the two highest areas of risk
venture capital investments, small business common stock, & small common stock mutual fund
Specific adjustments for interest-free loans to shareholders
verify the status, is it really a loan and is it collectible?
Specific adjustments for compensation of owners
what if not taking salary or taking too much?
Specific adjustments for allowance for doubtful accounts
what is really collectible
What are the two questions asked in regards to discounting/ capitalizing earnings
where earning expected to increase at a steady rate consistent with inflation or expected to increase or decrease at a rate different from inflation
Projected cash flows (discounted cash flows method) are projected for specific number of _____ then determine _______
years, terminal value (how many years)
Are interest free loans from shareholders specific adjustments
yes