What are the important purposes of the evaluation
1. Importance of company valuation for succession planning
As part of succession planning, the departing entrepreneur regularly asks himself what the value of his company is. The determination of the company value is determined depending on the concept of the planned handover of the company. If, for example, a donation is considered, the valuation is influenced by the applicable inheritance and gift tax law. If a partial or complete sale of the company shares is planned, the company value forms the basis for a purchase price to be achieved. In this case, the assessment procedures common in business administration and transaction practice are to be used.
2. Overview of common assessment procedures
For the derivation of corporate values, the following methods have emerged today, which are recognized in practice and are commonly used:
- Earned value method
- Discounted cash flow method (DCF method)
- Multiplier method
The income value method and the discounted cash flow method are so-called future success value methods. This means that the value of a company is derived from its future cash flows. These forecast cash flows are discounted to the valuation date using a suitable capitalization rate and the company value is determined as the present value. The past success of the company to be valued is therefore not directly included in the value. Rather, the past forms the basis for capturing the future potential of the company to be valued.
Earnings value method and discounted cash flow method are both equally recognized, whereby in Germany the income value method is used more frequently, in the international environment the discounted cash flow method is more common. With the discounted earnings method, the present value of the future financial surpluses that will flow to the company's owners is determined. In the discounted cash flow method, the company value is determined as the total value of a typical non-indebted company by discounting future so-called free cash flows. The free cash flows are the company's free cash flows to which equity and debt capital providers are entitled. In order to derive the enterprise value to which the shareholder is entitled, the financial liabilities must therefore still be deducted.
As part of the multiplier method, the company value is derived either from the market price of comparable, listed companies, or on the basis of prices paid in the course of transactions with comparable companies. The company value is the product of a multiplier derived from the comparable company and the corresponding key figure of the company to be valued. Values such as sales, EBITDA, EBIT, cash flow or the annual surplus can be used as reference values. If, for example, it can be deduced from transactions that a company in a certain industry pays an average of 1.2 times the turnover, this factor can be multiplied by the turnover of the company to be valued in order to roughly determine the total company value. When using a sales or EBIT multiple, the financial liabilities must be deducted to derive the value of the shareholders.
In the case of the multiplier approach, it is implicitly assumed that conclusions can be drawn about the value of the company in question from observable market prices of comparable companies. This approach is basically only meaningful if the derivation of the multipliers is well-founded and the database is at all comparable with the company to be assessed. Individual value drivers or risks must be explicitly taken into account separately in the calculation. Values based on the multiplier method often provide initial general information on the magnitude of the achievable company value. Example of multipliers
Other valuation methods, such as the liquidation value, the intrinsic value or the Stuttgart method, are generally not suitable for deriving an appropriate market value for the purposes of succession planning - especially with regard to a possible sale of shares.
3. Procedure for determining a company value
To determine the company value using the discounted cash flow method or the discounted cash flow method, the future financial surpluses are derived from corporate planning, especially from budgeted profit and loss accounts.
The procedure for an assessment is divided into the following steps:
- Analysis of past results and adjustment for one-time special effects
- Checking the plausibility of future financial surpluses based on the analysis of the past and the market and competitive environment
- Discounting future financial surpluses
- If necessary, separate valuation of non-operational assets (e.g. land and buildings not used for operational purposes)
As a basis for the forecast, the past results are analyzed in a first step and adjusted for one-off and extraordinary, that is, events that cannot be forecast. The aim here is to get a starting point for planning. The second step is to check the plausibility of future financial surpluses. As a rule, the companies to be assessed provide a multi-year business plan. When checking the plausibility of this planning, in addition to the company circumstances, influencing factors from the company's environment such as the industry and market situation as well as their development must be taken into account. Finally, the planned net income is discounted using the capitalization rate. In principle, the capitalization interest rate represents the return on an alternative investment that is suitable for investing in the company to be valued.
Valuations in Germany are often based on an evaluation standard of the Institut der Wirtschaftsprüfer, the IDW standard "Principles for Conducting Company Valuations" (IDW S 1). According to IDW S 1, the company value is basically derived from the financial surpluses that are generated by continuing the company and selling the assets that are not required for operations. Since the underlying financial surpluses are to be freely available to the company owner or investor, they must be determined taking into account company taxes and, in principle, the personal income taxes incurred by the owner due to ownership of the company. An assessment according to IDW S 1 is often created for expert purposes and documented in an expert report. In the course of succession planning, it may be helpful to base a succession plan on a neutral assessment by an independent, expert appraiser.
In the case of a planned sale on the market, however, achievable prices for the company's shares are rarely determined on the basis of IDW S 1. Here, subjective values are usually derived using the discounted cash flow method from the seller's point of view, taking into account individual goals and opportunities, and tested with the current situation on the transaction market in order to get an idea of the maximum achievable purchase price.
4. Essential indications for a meaningful company value
A company valuation can be carried out with a very different level of detail. The following aspects play an important role for the informative content of a company value:
The value of a company is determined for a specific point in time. This also means that the company value can only ever take into account a certain level of knowledge and consequently the company values determined for different evaluation times do not have to match.
Reason for evaluation
The procedure for an evaluation is basically based on the reason for the evaluation. This must therefore be precisely defined by the client of the evaluation. In the context of succession planning, this can be, for example, evaluations for sales purposes or for purposes of determining the value of a stake when a shareholder leaves. The orientation of the evaluation has a significant influence on the choice of premises and thus on the value.
Documentation of the premises and procedure
In order to present the variables influencing a value with sufficient transparency, a proper company valuation always includes documentation of the premises and the chosen approach by the evaluator.
Plausibility of the incoming data, especially the planning, comparison with historical data
The data included in the evaluation, in particular the planning drawn up by the company, must be checked for plausibility, especially with regard to the past. For example, sales planning that is very optimistic compared to the past should be questioned again. The question here is also whether the corporate planning is complete and whether the situation of the company to be valued adequately reflects the level of knowledge on the valuation date.
Hidden reserves and (and risks)
Companies can have hidden values and risks. Hidden reserves are contained, for example, in properties that are on the balance sheet with their historical acquisition costs and are not required for business operations. Hidden burdens are, for example, undervalued pension obligations. Such hidden reserves and also risks must be adequately taken into account in a market value.
Appropriate capitalization rate
The capitalization interest rate can have a great influence on the result of a valuation and must therefore be derived carefully.
Appropriate range, especially in the event of uncertainty about evaluation premises
A company valuation depends crucially on the underlying data and premises. If the available data do not allow a clear value to be derived, the valuer can determine an appropriate range for the company value or use a scenario analysis to show the sensitivities of the value.
Plausibility check of the evaluation result
Finally, the evaluation result should be compared with other, comparable values in order to check the plausibility of the magnitude of the company value.
Company valuation by independent experts
Publicly appointed and sworn experts for company valuation by the Frankfurt Chamber of Industry and Commerce provide competent advice without instructions. Further information can be found in the list of experts. For the research, enter the number "125" under the keyword "company valuation" and the number "125" for the responsible Chamber of Industry and Commerce.
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