Earnings Valuations

• Asset Valuation where the value of the firm is the value of its tangible assets like plant, building, machinery, fixed assets, inventory etc. Asset valuations might be undertaken for a number of reasons, but the most common is when a firm is quitting the industry, or is merging its assets with that of a another firm.

• Earnings Based Valuation (Earnings Valuation or Shareholder Value) which values the firm as a going concern. Earnings valuations use Discounted Cash flow methods to value the future ‘Free Cash Flows’ of the company, and the terminal value of the company inked to terminal growth and the lifecycle of the firm. These are then converted if need be into revenue multiple or Earnings Before Interest and Tax (EBIT) multiples commonly used in relative valuations;

• Relative Valuations which are simplified thumb rules of revenue and EBIT multiples by industry, extracted from Earnings Valuations conducted on a set of selected firms representing the industry;

• Contingent Claim Valuations which are contingent on the value of another underlying asset. Real Options or assets whose value is contingent on the increase in value of another asset are typical examples.

1. They allow firms that are going concerns to value their ability to generate free cash flows in the near and far term;
2. They make an estimate of the WACC and the ability of these future free cash flows to create wealth;
3. They estimate the terminal value of the company and therefore capture the effect of the company’s intangible assets like branding, intellectual capital etc;
4. They permit the owners an intelligent and economically way of transiting from the business; and/or
5. Provide for effective Succession Planning with SME's. 

Allan Rodrigues of The Business Farm specialises in Earnings Valuations, Brand Valuations and Contingent Claim Valuations. He is contactable at allan.rodrigues@thebusinessfarm.com.au