How to Value a Company?

The The valuation of a company measures the environment and everything that includes a business including fixed/current assets, liabilities, brand, personnel, technology, etc. In other words, valuing a company means analyzing the entire environment in terms of technical and economic issues.

Specifically, it is the economic capacity that a business has to generate flow or profits in the future, it must have in its projection a long-term growth and an expected return due to internal and external factors that reflect the operation, environment and virtues of the company itself.

Valuing a company usually requires the intervention of multidisciplinary groups, depending on the type of business, it can be listed mainly: financial, economists, actuaries, legal, fiscal and in some sectors technological and environmental experts.

There are 4 methods to value a company which tend to be the most common, with the discounted flow method being one of the most popular:

• Discounted flows
• multiples
• Balance
• Mixed or Goodwill

The process of valuing a company can vary, but it usually begins with a due diligence and creation of profile, later a preliminary financial analysis is made, which will help to shape the development of an own and unique financial model according to the own needs that arose during the analysis of the previous points, later and once the financial model is concluded, interpretation is given of the results and conclusions.

The elements of a process business valuation can be divided into:

Discounted Cash Flow Technique (FCF) What is it?

The most popular and common technique to value companies and investment projects is with the discounted cash flow methodology, establishing free cash flows, which at the same time are discounted under the VPN which is considered as the risk rate known as Wacc(k).

The discounted cash flow technique involves calculating the value of a company by estimating the expected cash flows generate in the future, which are then adjusted to present value using an appropriate discount rate.

This method is unique in its attempt to faithfully represent the current situation of the company, by integrating all the variables that influence the creation of value, such as investments, expenses and growth.

How is Discounted Cash Flows calculated?

How is the NPV calculated?

What applications does the Free Cash Flow method have?

For the company: Free Cash Flow for the Company (FCFE) is used to cover various expenses in the company, such as share repurchases, debt repayment, making new investments or maintaining a cash reserve within the company. company.

For Shareholders: Free Cash Flow to Shareholders (FCFA) is a financial metric that indicates the amount of cash a company has after completing all the investments required to maintain and grow its operation. This free cash flow is available for distribution to the company's shareholders, making it a crucial indicator of the value the company can offer its shareholders.

Discounted free cash flow: Discounted free cash flow is used to calculate the present value of the company's future cash flows. This calculation is made using a discount rate that reflects the opportunity cost of capital and the level of risk associated with the investment.

Perpetuity and its relationship with company valuation

Perpetuity is a financial concept that refers to a constant stream of cash flows that are expected to continue indefinitely into the future, in the context of business valuation, perpetuity is often used in the discounted cash flow (DCF) method, which is one of the most common approaches to determining the value of a company.

In the discounted cash flow method, the company's expected future cash flows are projected and then discounted to the present using an appropriate discount rate as mentioned above.

In some cases, it is difficult or impractical to project a company's cash flows beyond a certain period of time, as uncertainty increases over time and long-term projections may become less reliable.

This is where perpetuity comes into play, since after a certain projection period (generally at the end of the planning horizon), it is assumed that the company will continue to generate cash flows in perpetuity at a constant rate, which simplifies the calculation of the present value of future cash flows, since a simpler valuation formula can be used to calculate the present value of a perpetual stream of cash flows.

The relationship between perpetuity and business valuation lies in the fact that perpetuity is used as a way to capture the ongoing value of a company beyond the projection period explicit in the discounted cash flow analysis.

Types of Perpetuity

Perpetuity can be of two types: simple, when cash flows remain constant over time, or growing, if cash flows increase progressively.

Finally, there are also the decreasing perpetuities, which can arise in situations such as the exploitation of non-renewable resources, such as mining or oil reserves, where the extraction capacity decreases as time passes.

Present value of a perpetuity, what formula to use?

VP t=0 = P/i

Where: "Q” es = annual rent payment e “Yo" es = the interest or discount rate.

But since not all perpetuities will be constant, in the case of an increasing perpetuity the following formula is used VP t=0 = P/i – g

Where: "g“= the growth rate of perpetuity

There are also variables of the formula such as; PV = C/r

Where: PV = present value

“C” = cash flow per period

“r” = discount rate or required rate of return

Multiples Method to value a company

Valuation by multiples involves determining the value of a company using ratios obtained from similar companies. These ratios are derived from the value (or price) of comparable companies along with their main financial metrics, such as revenue, EBITDA, EBIT, net profit, among others. These ratios are implicit in the comparable companies and are applied to the main financial metrics of the company to be valued.

Therefore, to use this approach, it is necessary to have a significant set of companies comparable to the entity to be valued and the ratios of these comparable companies can be applied to the financial metrics of the target company, as long as its business does not is affected by unusual circumstances.

The most commonly used financial multiples in this method are:

1. Valuation multiple: It is calculated by dividing the company's market value (market capitalization or sales price) by a measure of its financial performance, such as earnings (net profit), revenue, or free cash flow.
2. Price/earnings (P/E) multiple: It is the company's price per share divided by earnings per share. This multiple indicates how much investors are willing to pay for each unit of profit the company generates.
3. Price/sales multiple (P/S): It is obtained by dividing the price per share by the income per share. This multiple compares the company's price to its sales level, which can be useful especially in companies with little or no profits.
4. Enterprise value/EBITDA multiple: It is calculated by dividing the total value of the company (market capitalization plus net debt) by the EBITDA (earnings before interest, taxes, depreciation and amortization). This multiple is commonly used in mergers and acquisitions transactions.
5. Enterprise value/revenue multiple: It is obtained by dividing the total value of the company by the income. This multiple compares the total value of the company with its income level.

Once these multiples have been obtained from comparable companies, an average or range of these multiples is calculated and applied to the company being valued to estimate its value, it is important to note that this method has limitations and does not take into account It takes into account qualitative aspects of the company.

Balance Sheet Method or Net Accounting Value

The balance sheet method in company valuation is a technique that is based on the analysis of the financial statements of a company, especially its balance sheet. In this approach, it seeks to determine the value of a company by evaluating its assets, liabilities and equity. net.

For this method, all assets of the business are considered in order to calculate its value, taking into account the accounting balance, but the history or evolution that the company may have in the future is not considered. Some of the most used methods are adjusted value, actual net assets, liquidation value, substantial value and book value.

Its procedure involves the sum of all the assets of a company and the subtraction of its liabilities; In this way, the value of the company is equivalent to the value of its assets, as it is especially useful when the company has considerable assets that could be liquidated to settle its liabilities in full.

However, this approach has restrictions, since it is based solely on the book value to establish the value of the company, in addition, it does not consider the concept of time value of money, nor other external and internal elements that affect the company, such as such as the situation of the sector, challenges related to personnel or the organizational structure, among others, which are not reflected in the accounting records.

GoodWill Method

These approaches are generally based on the concept of goodwill or goodwill, which represents the additional value that the company receives beyond its adjusted book value. This additional value reflects a set of intangible assets of the company that are not reflected in their accounting records.

These approaches adopt a combined perspective, since on the one hand, they carry out a static evaluation of the company's assets, while on the other hand, they introduce some dynamism by trying to quantify the value that the company will generate in the future, these methods They seek to determine the value of the company by estimating both the total value of its assets and a surplus derived from the value of its future profits.

When a company acquires another, it generally pays more than the identifiable tangible and intangible assets of that company are worth; the excess paid is attributed to intangible factors such as brand reputation, customer loyalty, the talent of the management team, among others. In others, such items do not typically appear in the financial statements of the acquired company, but are considered valuable to the buyer.

The Goodwill method is used to record this excess payment as an intangible asset on the acquiring company's balance sheet, this asset is amortized or gradually reduced over time, reflecting the loss in value of the goodwill due to wear or changes in market conditions.

What is the purpose of valuing a company?

Find ways and accurate ways to identify, measure the economic / operational relationship of a company based on current and future business conditions in a set of internal and external factors.

It has to be done an analysis of administrative, legal and financial, commercial, operational and market characteristics,

Through it, you can find the profile of products and services, as well as the market opportunities and limitations offered by the company itself, as well as its strengths and weaknesses.

The main factors are:

The main purposes of valuing a business can be to:

Analysis of investments, acquisitions, placement of capital on the stock market, mergers, to evaluate and remunerate managers, compensation, dation in payment, reengineering, merger-absorption, company dissolution, administration and planning.

Benefits of valuing a company

Usually a business can have different values according to who values it, so the main benefit of doing a company valuation study is to have a partial parameter that is as impartial as possible, to make decisions in favor of investors, owners or beneficiaries.

The benefits of valuing a company fall and are born in the general purpose and objective of the interested parties, that can arise from the need to calculate the range of value that seek to be a reliable reference in a negotiation between parties, may also be subject to the objective of identifying opportunities to invest when making an assessment of indicators, or value drivers that may be of interest to the potential buyer, another purpose may be to identify the economic value on certain dates to buy at appreciation or depreciation in the capacity of "value creation."

The benefits of carrying out a company appraisal are diverse and provide very useful information for decision making:

The benefits of the Service that ANEPSA Guarantees when valuing a company are:

The added value in ANEPSA is: