Guidelines for company valuation

An overview of the best methods for precise company valuation

Imagine you have built up a company with a lot of passion. What began 35 years ago with a bold idea gradually became a success story. Of course, there were always challenges, new competitors or customers who wanted more performance for less money. But you have always mastered these challenges. The number of employees rose continuously and sales and profits grew. With commitment and determination, with skill and a little luck now and then, you always moved forward. But now it is time to strike out in a new direction. You are considering selling your company or bringing investors on board. But how can the true value of your company be determined?

A company valuation provides answers – it creates clarity and forms the basis for informed decisions. Whether you are selling, acquiring, merging or planning succession, different valuation methods offer different approaches depending on your company’s individual objectives and circumstances. In this article, I will present the most common valuation methods, explain their areas of application and advantages, and provide practical advice on how to carry out a company valuation successfully and accurately.

Why is a company valuation important?

For many founders, their own company is more than just a business – it is a life’s work. The vision, the commitment and the countless hours that have gone into it often make the company invaluable in the eyes of its founders. However, this subjective view does not always correspond to the objective value that third parties – such as investors, buyers or banks – attach to the company. This is precisely where a well-founded company valuation comes in: it creates an objective basis for the economic reality and attractiveness of the company.

An objective valuation is particularly important for external stakeholders:

• Buyers seek transparency to back up their investment or purchase decision.
• Investors want to understand whether the company is a worthwhile long-term investment.
• Banks need a clear assessment of the company’s value in order to make informed lending decisions.

But a company valuation goes far beyond transactions. It is also a strategic tool for identifying growth opportunities, planning targeted investments and managing performance. It also plays an important role in legal and tax contexts, for example, in determining the value of a company in estate proceedings, the distribution of company shares or tax audits.

In short, an objective company valuation is indispensable in many cases. It allows you to see your company through the eyes of others and provides the basis for strategic decision-making, economic security and trust among all stakeholders.

The most important methods of company valuation

There are several recognised methods of company valuation, which can vary depending on the company’s objectives and structure. Each method offers specific advantages and is particularly suitable for different situations. The following is an overview of the most important methods of company valuation:

Earnings value method (EV)

The discounted earnings method (DEM) focuses on a company’s profitability by forecasting future profits and earnings and discounting them to the present point in time. It is assumed that the value of a company is largely defined by its future earnings. This method is widely used because it offers a well-founded estimate of sustainable value development.

Application: The capitalised earnings value method is particularly suitable for established companies with a constant and predictable earnings base.

Discounted cash flow (DCF)

The discounted cash flow method is based on the idea that the value of a company is determined by the sum of its future discounted cash flows. This method looks at the cash flow that the company will generate in the future and discounts it to its present value to determine the company’s value. Factors such as expected revenues, expenses and growth rates play a crucial role here.

Application: The DCF method is particularly useful when a company is in a growth phase or when future cash flows are stable and highly predictable. It can also be helpful when valuing companies in early development phases, provided that future revenues are sufficiently predictable.

Market Value Method

The market value method is based on comparing the company with similar companies on the market to determine its value. This method requires that sufficient comparative data from similar companies be available, either publicly traded or recently sold. The company value is derived by comparing key figures such as sales, profit and market capitalisation.

Application: The market approach is particularly suitable when a company operates in an industry in which there are many comparable companies. It is often used in situations where quick and market-driven valuations are required, for example in the case of acquisitions, mergers or the sale of parts of a company.

Net asset value

The net asset value method values a company based on its tangible and intangible assets. The value of the assets (e.g. property, machinery and patents) is determined and deducted from the liabilities. The resulting value reflects the ‘net asset value’ of the company, i.e. the value that could be realised if the company were liquidated.

Application: This method is particularly suitable for companies that have significant tangible assets, such as real estate, machinery or inventories. It is often used in cases where the company is in difficulty or is valued as a liquidation.

The net asset value method is also useful for companies in capital-intensive industries, such as manufacturing. However, it is less suitable for companies where intangible assets (e.g. brand name, intellectual property or customer relationships) play a significant role.

Selecting and applying the appropriate valuation method

The choice of valuation method depends on various factors, including the purpose of the valuation, the industry, the size of the company and the availability of data. Here are some considerations to help you select the appropriate method:

• The purpose of the valuation: DCF or market value methods are often useful for acquisitions or mergers, while the net asset value method makes sense when valuing companies with a lot of assets.
• The industry and size of the company: large companies often benefit from the capitalised earnings method, while the DCF method can be more accurate for smaller companies.
• Data availability: The market approach is particularly useful when there are many comparable companies whose values can serve as a benchmark.
• Market situation: When the market provides value indications, the market approach is often helpful.
• Tax or legal requirements: In certain legal contexts, the net asset value approach can be advantageous because it allows for an accurate recording of assets and liabilities.

Ultimately, there is no universal solution – the right valuation method always depends on the individual parameters and objectives. A careful analysis of these factors is key to selecting the appropriate method and ensuring a well-founded, precise valuation.

The theory of company valuation often sounds clear and structured: select a method, take into account the relevant parameters and carry out the calculations. However, in practice, it quickly becomes apparent how complex the process actually is.

A precise company valuation requires not only the selection of the appropriate method, but also access to detailed and reliable data. In doing so, you face a variety of challenges:

• Whether it’s future cash flows, growth rates or market comparisons, many parameters are based on forecasts that are difficult to predict.
• In particular, smaller companies often lack the complete or up-to-date data that would be necessary for a well-founded valuation.
• Applying methods such as the discounted cash flow (DCF) or capitalised earnings methods is challenging and requires a high degree of accuracy. A small error in data entry can significantly distort the result.

What’s more, the entire process can be time-consuming, especially if you have to collect or update data manually.

This is where specialised software solutions can make all the difference. Modern business valuation tools offer numerous advantages:

• They access up-to-date market data and benchmarks, so you can always work with the latest figures.
• They perform calculations automatically, minimising the risk of errors.
• They also make it easier for beginners to use sophisticated valuation methods.
• Some solutions also offer scenario analyses that allow you to test various assumptions and make more informed decisions.

Using such tools not only saves time, but also ensures that your valuation is carried out in a well-founded and professional manner. Especially in a complex and data-intensive area such as company valuation, this can represent a decisive advantage.

A successful company valuation requires not only theoretical knowledge of the methods, but also the right tools to master the challenges of the practical application.

Conclusion

A company valuation is an indispensable tool for creating an objective basis for well-informed decisions – whether it be a sale, takeover, merger or succession plan. It provides clear answers to the question of what a company is actually worth, and helps not only banks, investors or buyers, but also founders who have built up their company with a great deal of passion over decades and overcome numerous challenges.

The choice of the appropriate valuation method – whether capitalised earnings value, discounted cash flow (DCF), market value or net asset value – depends on the objectives, the industry and the individual circumstances. Each method offers different perspectives and should be selected carefully. This is where modern software solutions can provide meaningful support. They make it easier to handle data, reduce sources of error and ensure precise results. This makes the often demanding process of company valuation more efficient and at the same time more reliable, creating a solid basis for strategically shaping the future of the company.

Notes:

At SmartZebra, you will find both a business valuation software that you can test free of charge and a guide to download.

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Philipp Nessmann has published more articles on the t2informatik Blog: