In a company valuation, the company value corresponds to the discounted earnings or cash flows in the future. The calculation is made on the basis of valuation methods recognised in M&A practice. The company value calculated with these valuation methods, together with the essential parameters in the purchase agreement, results in the purchase price to which the shareholders are entitled, or the shareholders get a feeling of how their company is valued in the market. In the following we show the different aspects on the topic of company valuation and demonstrate the difference between three terms that are often used at the same time, but which represent a completely different value: because the calculated company value does not correspond to the purchase price, nor does it correspond to a market value, and certainly not to the net asset value.
On what occasions is a company value calculated?
In practice, a company valuation is needed for the following cases:
- Company acquisition: The buyer's management is obliged to have the company value professionally determined ("impairment test").
- Sale of a company: Before a sale and during the M&A process when selling the company (partial sale or 100% sale), a professional company valuation is the basis for the decision whether to sell now or at what purchase price the company should/can be sold.
- Valuation of the value of individual components of a company, e.g. a division, a product, etc.. In a so-called asset deal, individual components of the company must be valued so that they can be carved out ("carve-out").
- Company succession: In the context of inheritance or also in the case of gifts, a professional company valuation is required, e.g. for the payment of heirs or for the tax office.
- Taxation: The tax office also requires a business valuation for the calculation of taxes.
- Exit of individual shareholders from the company: A professional business valuation is also required for calculating the amount of a severance payment
Calculation of the enterprise value / equity value / bridge
There are a variety of valuation methods. In practice, the discounted cash flow method (DCF method) and/or the capitalised earnings value method as well as comparative methods (multiples method) - comparable M&A transactions and comparable listed companies - are used. Each method for calculating the enterprise value will produce a different result. The so-called "objective enterprise value" does not exist. At the end of the day, it is not the calculated company value that is relevant, but the purchase price, which results from the negotiation and from the market forces of supply and demand - or from alternatives of the buyer and the seller. The net asset value method and the capitalised earnings method do not play a role in M&A practice when calculating the company value.
Calculation of the company value with valuation calculators
If you search the internet for free valuation calculators, you will find a large number of websites that provide such a valuation calculator to calculate the company value. From our experience as M&A consultants, the results of these valuation calculators should be treated with the utmost caution. We always recommend having a professional and market-oriented company valuation carried out in order to calculate the company value and to get a realistic impression of the achievable purchase price. It is essential to note that the net asset value method and the capitalised earnings method play no role in the sale of a company. The multiples procedure as well as the DCF procedure are used for every company sale.
Basics of a professional business valuation
- Forecasting: Both the capitalised earnings value method and the discounted cash flow method require a planning calculation of 10 years. An integrated financial plan is prepared on the basis of comprehensible assumptions ("premises"). The integrated financial planning includes a P&L planning, a balance sheet planning (including investment planning) and a cash flow planning. The assumptions should be comprehensible and consistent for an external professional observer.
- Management: The value of the company is significantly influenced by the acting management. The broader and more professional the management, the higher the enterprise value. The more dependent the company is on the shareholder, the lower the company value. For buyers, a high dependence of the company on the seller represents an incalculable risk and such a risk leads either to very high valuation discounts or to a high earn-out share (purchase price payment in the future, depending on the achievement of the agreed goals).
- Products and services: How unique are the products and services? What patents, trademarks, etc. exist? How high is the share of sales secured with contracts over several years?
- Customers: A low customer concentration and long-standing existing customers with growth potential increase the value of the company.
Calculate enterprise value / equity value and bridge
M & A consultants as well as auditors/tax consultants prepare a professional business valuation. The cost of calculating the value of a business depends on a number of factors, such as: Size of the company, is there a professionally prepared and comprehensible integrated financial plan, how often does the consultant have to meet with the client on site, how many alternative valuation methods are to be used at the same time, etc.... For this reason, the cost of preparing a professional business valuation ranges from EUR 5,000 to EUR 25,000. The company value calculators that can be found on the internet should be used with caution. These business value calculators cannot replace a professional business valuation by an M&A consultant.
Frequently asked questions in connection with business valuation
Why does the calculated enterprise value / goodwill not correspond to the purchase price paid?
The enterprise value is determined on the basis of various valuation procedures. All valuation methods require integrated financial planning. The premises of the financial planning can lead to alternative assumptions by the buyer. Each purchase price in the sale of a company also depends on the contents of the purchase agreement and the transaction structure. The more complex and extensive a purchase agreement is, the more risks it contains for a seller and for this reason the purchase price should be higher when selling a company. The higher the share of the purchase price to be paid in the future, the higher the purchase price must be, as the seller is taking a higher risk. These are only a few reasons; in practice there are a multitude of reasons why the purchase price does not correspond to the calculated enterprise value.
Does it make sense to sell the company via a company exchange on the Internet? Here you will also find a detailed article on company exchanges in the KP TECH magazine.