Business Valuation Terminology
Asset Sales Analysis –
- Seller Keeps cash and receivable but delivers company free of any debt.
- Seller keeps corporate entity to later dissolve or use for new endeavor.
- Seller pays combination of capital gains tax and ordinary income.
- Buyer and seller agree to allocation of purchase price between IRS asset categories.
- Buyer may re-depreciate fixed assets based on allocation.
- Buyer avoids assuming both known and unknown liabilities.
- If price is greater than identifiable, tangible assets, the excess is allocated to one or more intangible assets (written off over fifteen years for tax purposes and up to forty-two for book purposes).
Business Valuation – The act or process of determining the value of a business enterprise or ownership interest therein.
Capitalization – A conversion of a single period of economic benefits into value.
Capitalization Factor – Any multiple or divisor used to convert anticipated economic benefits of a single period into value.
Capitalization of Earnings Method – A method within the income approach whereby economic benefits for a representative single period are converted to value through division by a capitalization rate.
Capitalization Rate – Any divisor (usually expressed as a percentage) used to convert anticipated economic benefits of a single period into value.
Cash Flow – Cash that is generated over a period of time by an asset, group of assets, or business enterprise. It may be used in a general sense to encompass various levels of specifically defined cash flows. When the term is used, it should be supplemented by a qualifier (for example, “discretionary” or “operating”) and a specific definition in the given valuation context.
Cash and Equivalents – All cash, marketable securities, and other near-cash items. Excludes sinking funds. Cash equivalent (NOW accounts and money market funds) must be available upon demand in order to justify inclusion).
Control – The power to direct the management and policies of a business enterprise.
Control Premium – An amount or a percentage by which the pro rata value of a controlling interest exceeds the pro rata value of a non-controlling interest in a business enterprise, to reflect the power of control.
Cost Approach – A general way of determining a value indication of an individual asset by quantifying the amount of money required to replace the future service capability of that asset.
Discount for Lack of Control – An amount or percentage deducted from the pro rate share of value of 100% of an equity interest in a business to reflect the absence of some or all of the powers of control.
Discount for Lack of Marketability – An amount or percentage deducted from the value of an ownership interest to reflect the relative absence of marketability.
Discretionary Earnings – ([Net Income] + [Taxes] + [Interest Expense] + [Owners Compensation] + [Noncash Charges]).
EBIT – Earnings before Interest and Taxes – One definition of cash flow or operating profit.
EBIT / Interest Expense – [Net Income + Taxes + Interest Expense] / [Interest Expense] (also known as Fixed Charge Coverage)
EBIT / Sales – [Net Income + Taxes + Interest Expense] / [Sales] (also known as Operating Profit Margin)
EBITDA – Earnings Before Interest, Taxes, Depreciation and Amortization – One definition of cash flow or operating profit.
EBT (Earnings Before Taxes) – Operating Profit minus Interest Expense.
Economic Benefits – Inflows such as revenues, net income, net cash flows, etc.
Economic Life – The period of time over which property may generate economic benefits.
Effective Date – The specific point in time as of which the valuator’s opinion of value applies (also referred to as “Valuation Date” or “Appraisal Date”).
Enterprise – A commercial, industrial, service, or investment entity (or a combination thereof) pursuing an economic activity.
Equity – The owner’s interest in property after deduction of all liabilities.
Equity Price – Reported Selling Price (includes the noncomplete value and excludes any long term liabilities assumed, real estate value and employment/consulting agreement value).
Equity Price / Book Value of Equity – [Equity Price] / [Total Assets – Total Liabilities]
Equity Price / EBT – [Equity Price] / ([Net Income] + [Taxes])
Equity Price / Gross Cash Flow – [Equity Price] / ([Net Income] + [Noncash Charges])
Equity Price / Net Income – [Equity Price] / [Net Income]
Equity Price / Net Sales – [Equity Price] / [Net Sales]
Fair Market Value – The price, expressed in terms of cash equivalents, at which property would change hands between a hypothetical willing and able buyer and a hypothetical willing and able seller, acting at arms length in an open and unrestricted markets, when neither is under compulsion to buy or sell and when both have reasonable knowledge of the relevant facts. [Note: In Canada, the term “price” should be replaced with the term “highest price”.]
Fixed Assets – All property, plant, leasehold improvements, and equipment, net of accumulated depreciation or depletion.
Going Concern – An ongoing operating business enterprise.
Going Concern Value – The value of a business enterprise that is expected to continue to operate into the future. The intangible elements of Going Concern Value result from factors such as having a trained work force, an operational plant, and the necessary licenses, systems, and procedures in place.
Goodwill – That intangible asset arising as a result of name, reputation, customer loyalty, location, products, and similar factors not separately identified.
Goodwill Value – The value attributable to goodwill.
Income (Income-Based) Approach – A general way of determining a value indication of a business, business ownership interest, security, or intangible asset using one or more methods that convert anticipated economic benefits into a present single amount.
Intangible Assets – Non-physical assets such as franchises, trademarks, patents, copyrights, goodwill, equities, mineral rights, securities and contracts (as distinguished from physical assets) that grant rights and privileges, and have value for the owner.
Intangibles – Assets with uncertain or hard-to-measure benefits such as brand names, trademarks, patents or copyrights, a trained workforce, special know-how, and customer or supplier relationships, that make the company viable.
Interest Expense – Cost of borrowing expressed as an annual dollar amount.
Inventory – Anything constituting inventory for the firm including raw material, work in progress and finished goods. Those items of tangible property which are held for sale in the normal course of business, are in the process of being produced for such purposes, or are to be used in the production of such items.
Long-term Debt / Total Assets – [Long-term Liabilities] / [Total Assets]
Market (Market-Based) Approach – A general way of determining a value of indication of a business, business ownership interest, security, or intangible asset by using one or more methods that compare the subject to similar businesses, business ownership interests, securities, or intangible assets that have been sold.
Market Multiple – The market value of a company’s stock or invested capital divided by a company measure (such as economic benefits, number of customers).
Marketability – The ability to quickly convert property to cash at minimal cost.
Minority Discount – A discount for lack of control applicable to a minority interest.
Minority Interest – An ownership interest less than 50% of the voting interest in a business enterprise.
Most Probable Selling Price (MPSP) – That price for the assets intended for sale which represent the total consideration most likely to be established between a buyer and seller considering compulsion on the part of either buyer or seller, and potential financial, strategic, or non-financial benefits to seller and probable buyers.
MVIC (Market Value of Invested Capital) – Equity Price + Long Term Liabilities Assumed
MVIC / Book Value of Invested Capital – [Equity Price + Long Term Liabilities Assumed] / ([Total Assets – Total Liabilities] + Long-term Liabilities])
MVIC / Discretionary Earnings – MVIC / ([Net Income] + [Taxes] + [Interest Expense] + [Owners Compensation] + [Noncash Charges])
MVIC / EBIT – [Equity Price + Long Term Liabilities Assumed] / ([Net Income] + [Interest Expense] + [Taxes])
MVIC / EBITDA – [Equity Price + Long Term Liabilities Assumed] / ([Net Income] + [Interest Expense] + [Taxes] + [Noncash Charges])
MVIC / Net Sales – [Equity Price + Long Term Liabilities Assumed] / [Net Sales]
North American Industry Classification System (NAICS) – A new economic classification system adopted by the United States, Canada, and Mexico for defining industries and classifying establishments by industry. It replaces the SIC in the United States.
Net Book Value – With respect to a business enterprise, the difference between total assets (net accumulated depreciation, depletion, and amortization) and total liabilities as they appear on the balance sheet (synonymous with Shareholder’s Equity). With respect to a specific asset, the capitalized cost less accumulated amortization or depreciation as it appears on the books of account of the business enterprise.
Net Income / Sales – [Net Income] / [Sales] (also known as Net Profit Margin)
Non-Operating Assets – Assets not necessary to ongoing operations of the business enterprise. [Note: In Canada, the term is “Redundant Assets”.]
Other Current Assets – Any other current assets, excluding Cash and Equivalents, Trade Receivables and Inventory.
Price/Earnings Multiple – The price of a share of stock divided by its earnings per share.
Rate of Return – An amount of income (loss) and/or change in value realized or anticipated on an investment, expressed as a percentage of that investment.
Real Estate – Dollar value placed on any real estate associated with the sale of the business. The real estate value is not included in the Equity Price or MVIC.
Required Rate of Return – The minimum rate of return acceptable by investors before they will commit money to an investment at a given level of risk.
Return on Assets – [Net Income] / [Total Assets]
Return on Equity – [Net Income] / [Total Assets – Total Liabilities]
Rule of Thumb – A mathematical formula developed from the relationship between price and certain variables based on experience, observation, hearsay, or a combination of these; usually industry specific.
Sales / Total Assets – [Sales] / [Total Assets] (also known as Asset Turnover)
Sales / Fixed Assets – [Sales] / [Fixed Assets]
Seller’s Discretionary Cash Flow (SDCF) – See Cash Flow
Seller’s Discretionary Earnings (SDE) – See Cash Flow
Standard of Value – The identification of the type of value being used in a specific engagement; e.g. fair market value, fair value, investment value.
Standard Industrial Code (SIC) – A classification used by the United States government to identify the industry in which a business operates.
Stock Sale Analysis –
- Seller pays primarily capital gains tax rather than higher ordinary income tax rate.
- Seller endorses stock certificates over to new owner.
- Buyer assumes all assets and liabilities unless specifically excluded.
- Buyer takes on risk associated with unknown liabilities.
- Buyer inherits tax depreciation schedules as they are (for better or mostly worse).
- Buyer may inherit tax loss carry forwards to shield future income.
- There is no allocation of purchase prices or goodwill related to transaction.
Tangible Assets – Physical assets (such as cash, accounts receivable, inventory, property, plant and equipment, etc.).
Total Current Assets – Cash and Equivalent plus Trade Receivables plus Inventory plus Other Current Assets.
Trade Receivables – All accounts from trade, net of allowance for doubtful accounts that will result in the collection of cash.
Valuation – The act or process of determining the value of a business, business ownership interest, security, or intangible asset.
Valuation Approach – A general way of determining a value indication of a business, business ownership interest, security, or intangible asset using one or more valuation methods.
Valuation Method – Within approaches, a specific way to determine value.