Business Valuation

In Mexico the valuation of companies was not always of great importance, However, in recent years, studies on the subject have expanded and have made it possible to assess its relevance when making decisions within any company and on its ability to generate profits, which is the main objective for any type of entrepreneur. .

In Business Valuation, both tangible and intangible assets must be considered; the latter have a value of great importance today, unlike some years ago. Their importance is notorious, since if they are not considered in the appraisal, partial or inadequate valuations of the company, sometimes overvaluing it with high tangible assets or undervaluing it.

The purchase or sale of a business is the most common reason why a business valuation is required, however, there are other reasons such as planning, reorganization or verifying its value to lenders or investors.

A company, depending on the business to which it is dedicated and the sector in which it develops, can be made up of a wide variety of assets; from industrial warehouses, furniture, special installations and heavy machinery, to software, industrial secrets, trademarks and patents, as well as debts, income statements, etc. And the value of each of these elements is variable over time.

To carry out the valuation of a company it is necessary to take into account a wide range of aspects, not only the value of the assets it owns. Therefore, it is a complex process, but if it is carried out with the correct methodology, it provides extensive and useful information about the company.

What is business valuation?

It is a process used more frequently by investors or businessmen to know the real value of the shares of a particular company, through this process the value in perpetuity of a company is estimated over time according to its historical behavior.

What is business valuation used for?

There are several reasons why you decide to carry out a business valuation, among them are:

Buy and sell	It is useful to reveal the theoretical value of a company, this is the minimum price that the seller must accept and the maximum price that the buyer must pay.
Stock Market Operations/IPOs	The result is the price at which companies should trade on the stock market. When a company decides to go public, it is necessary for its shares to have a price so that, from that moment on, they can start trading on the secondary market.
Inheritances/Judgments	When a company is inherited, it is necessary to pay share distributions that will be determined based on its value.
Remuneration	On certain occasions, a part of the remuneration of the company's directors is determined by increasing the value of the company.
Strategy (Merger and/or Split)	To find out which products add the greatest value to the company or if it is convenient to merge with others, in order to guide the company's strategy in one direction or another.
Arbitration processes and bankruptcy proceedings	When a company has debts, fines or legal problems, a valuation must be carried out in order to cover the corresponding compensation.

Business valuation methods

The fair value of your company is determined through the adoption of financial statements to International Financial Reporting Standards (IFRS or IFRS for its acronym in English), which are inscribed in the acceptance patterns of the global economy. Once the company information is integrated into the IFRS, Its value can be determined with the following three valuation approaches

Income Method

This approach is premised that the value of the company is directly proportional to the income that the company receives. A projection is made on the inputs and outputs, with which the famous and virtuous for financial modeling is obtained. “Cash Flow“, this has to be abstracted through the “Discounted Flow Method or Free Cash Flow to Firm/Equity”, to conclude with a finite value of the business, which aims to measure the future projection at today's value for a finite time during its journey, with respect to its behavior in the sector to which it belongs.

Market Method

To carry out a company valuation from a market perspective, a deep investigation of similar transactions must be carried out, evaluating similar companies, innovation of their products, etc.

Cost Method

To carry out the brand valuation with a cost approach, the argument is taken that the value of the brand is equal to the economic resources that were used to create it, however, it has the disadvantage that the result could be somewhat high or very low, so this approach is not suitable if you plan to use the valuation for a financial transaction.

How is a business valuation done?

The most popular and used method is Discounted Flows (Free Cash Flow to Firm), which enters as a business valuation model, within the income methods.

There are other company valuation methods that can be used for some other purposes, or even that in their application are more virtuous when it comes to measuring diversified impacts of risk, or by type of flow relationship that the product has, or by evaluate by which we can have different models:

Some of the models used:

Free Cash Flow to Firm
Free Cash Flow to Equity
Goodwill
multiples
odds
Black & Scholes(Options)
Monte Carlo

These three approaches allow tools to be given to the owner of the company as well as to the shareholders or investors, to obtain the greatest benefit from it, whatever the objective. The results of the valuation are expressed in an Executive Summary to express in a much more efficient way the values of the company, as well as the methods and approaches used to determine it.

What elements make up a company?

A company is not made up only of the brand or the leaders who created it, since three important factors are considered for its valuation:

Within these goods are also considered the raw materials that are used for the generation of new products and that are necessary for there to be adequate production and to finish generating the final products.

And the capital of the company is also considered, whether they are shares, obligations or securities.

Material goods: This area includes constructions, land, constructions or facilities that are used in productive work, in the same way we can find the machinery and equipment that are used to complement the work.

And the capital of the company is also considered, whether they are shares, obligations or securities.

Personnel or human factor of the company: This is a very important factor in the company, since each of the positions plays a role that must be valued and considered when making decisions. Here we can find the division of: workers, supervisors, technicians, executives and directors.

Systems: In this aspect, the relationships that must exist between the company's personnel and the teams that are formed are considered, such as the sales, production, marketing or finance systems or areas.

What information is required for the valuation of companies?

In order to carry out an adequate valuation of companies, it is necessary to have qualitative and quantitative information at hand, this in order to carry out a more complete analysis of the information that allows us to know how the company operates within the environment and to know those aspects and characteristics of the company. company to be valued. For this reason, the following information is considered:

1. Company financial statements: It is required that they be those audited for the last 3 years and that they include the complete report containing: opinions, the financial status of the company, as well as any notes that have been made.

2. The company's business plan: This must include the following points:

The general description of the company,
Trends depending on the sector or industry in which it participates
If there are problems in the company's economy
An appraisal of fixed assets (if it is not available, it can be considered when requesting the appraisal of the company)
Market research you have done
A study of the products
Describe the capacity of the facilities as well as a description of the production processes
Indicate the main competitors both nationally and internationally.
Competitive advantages and disadvantages.
The opportunities and risks that the company has
Planning and strategies to be applied in the future.
The legal structure of the company.
The tax situation of the company.
Those contractual commitments that exist.
The organizational chart of the company as well as the main members of the administration and executives.
If there are unions or personnel who are considered trustworthy.

3. The company's financial projections are required with a preference range of 5 to 8 years., here the cash flows, the annual budget for the current year and its compliance and the operational and macroeconomic premises are considered.

All this information may vary depending on the company and the characteristics it has.