What Is The Market Approach Valuation Methods?
Business valuation is a critical part of the processes in the business lifecycle. Valuation is mostly required when the business wants to raise funds for its business. This helps in getting the right value of the business so that investors get the right amount of shares against the funds invested by them. Business valuation is not as simple a task as it seems. People often think correct accounting figures are all they need but it needs more than that. The valuation method considered in the process is one of the many things. Opportunities and opportunity costs are two aspects that need to be assessed for planning and looking into future growth. The weakness and strengths of the business can be known through the valuation process which is highly beneficial for the investors, consumers, and other related people. Intellectual property valuation helps in knowing what the company could generate in the near future. This is done through the economic benefit method or income method.
Basics of market value approach
The market approach is also referred to as the market comparison approach or market-based approach. As the name suggests, it aims at the fair market value of an asset or security. The valuation is done by collecting data about the transactions involving similar assets. The approach is possible in publicly traded shares where a lot of data is present and available. The valuation methods are used to derive the value of an asset or business. The selling price of similar assets being sold is considered as base. It is one of the three valuation techniques which is quite famous. The other two are the cost approach and discounted cash flow or intrinsic value approach. The market approach valuation method is used to determine the value of a business, intangible asset, or security by taking into account market prices of similar assets being sold or still present. When the value of a share is to be determined, the selling price of similar stocks is looked into. This helps in giving a fair estimation value of the shares. The market approach is used for valuing real estate and also used for closely –held businesses. A closely-held business is where most of the shares are held by a few individuals or investors. The fundamental benefit of the market value approach is that it depends on publicly available data or information on comparable transactions.
Situations when market value approach method is highly suitable:-
Where there are disputes due to disagreements or buyout issues, the market value approach method is used to justify the business value.
Where the need for fighting the case of business valuation is required before the tax authorities, such a method is beneficial.
For setting the offer price for the purchase of the business, a market value or comparison approach is best.
In both the cases below it's important to check for common points such as similar profits, competition for the same business, the area of the companies, similarity in services and products, and whether the companies are operating in the same industry. The comparable company analysis is done to evaluate the ratios of similar companies which is used to derive the value of the business.
Different types of market approach valuation methods are:-
Public Company comparable method: - The metrics here are used from the publicly traded companies. Since the public companies are huge, it becomes difficult to compare directly with the subject company. Also, the companies are not similar to each other. The metrics and the comparable are selected to be used for analysis with the subject company. The implied equity value and the enterprise value are determined for estimating the value. They are also known as trading multiples, peer group analysis, and equity comps. The profit earnings ratios, EBITDA ratios are considered to pull out the values. The ratio helps know whether the company is overvalued or undervalued. The value of the business is overvalued when the ratio is high and vice versa.
Precedent transaction method: - It is a valuation method where the price paid in the past for similar companies is taken into account as an indicator. The past performance of the companies is considered to arrive at the company’s valuation. The analysis is difficult as the market conditions change. This becomes tough either during the previous valuation or during a certain period of performance. Companies are selected here on the basis of similar financial characteristics. They are also known as M&A comps. They are not much used compared to comparable methods.
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