How To - Use the 2 Basic Methods of Valuation

There are 2 basic methods used in determining the value of a business:

  1. First Method - Expectation of future profits:
    This is based on the expectation of future profits and the return to the buyer for his/her investment. Many prefer this method because it forces the buyer, as well as the seller, to focus on sales and profits, to arrive at the capitalisation value of the business. There is also an expectancy of what the return on investment will be.

  2. Second Method – Value of assets and goodwill:
    This is based on the value of the assets at the time of the negotiations, plus the goodwill, for the potential worth of the business. This method gives little consideration to the future of the business because it is based on the asset value relating to the business at that present time. It is not commonly used because it is not reliable.

1. First Method – Expectation of Future Profits
This method is also known as “Capitalisation of Profits” method.

To arrive at a valuation using this method, financial statements and their meanings are analysed. Before you pr...

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