More ….. about Business Valuations

Balance Sheet Value is simply the net value of all the assets minus all the liabilities included in the sale; assets at book value in a share sale usually, or at fair market value usually, in an asset sale, and liabilities at actual.

The larger issue between buyer and seller is generally not balance sheet value however, but goodwill value. By and large, balance sheet value is based on history, thus a known quantity.  It reflects what the company ‘has earned and has retained’ from past business.  Goodwill value is based on the value of an unknown future. It estimates ‘what from past success’ can be realistically sustained by the business into the future under new ownership; what the company ‘will earn and retain’ in future years.

Goodwill Value (income or earnings based) is typically based on a multiple of ebitda; earnings before interest, taxes, depreciation, amortization. To find ebitda, one must recalculate and reorganize the company’s income statements into recast income statements restating earnings before interest, taxes, depreciation, amortization and before the total of all forms of owner compensation (such as wages, salaries, dividends, benefits, perks and other accruals to the owner) that are in excess of reasonable market replacement wages.  And, there may be other factors to normalize to business-norms/necessities as well; rents, vehicles, entertainment, charitable donations, etc.

Arbitrary: There as an arbitrary component to every valuation containing a goodwill component. Goodwill value implies that ‘a level of gain experienced in the past will be continued into the future,’ and then it goes on to estimate what that level will be. And, since no one knows the future, the best anyone can provide is an educated and reasoned estimate, and that is what our method attempts to capture.