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Old 02-21-2013, 08:06 PM
Jorski Jorski is offline
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Join Date: Jul 2004
Boat: 1993 190 with LT1
Location: Toronto, Canada
Posts: 1,461
You can take several approaches:

1) you can do a build or buy analysis. This is basically comparing the net value of the balance sheet to what it would cost to recreate the assets of the business. This measure gives you a look at the current tangible value, but does not capture the value of customer and supplier relationships or future growth opportunities.

2) in most industries there is generally a standard multiple of sales. Generally speaking, this measure is highly dependent upon the capital intensiveness of the industry. This measure gives you a good "rule of thumb" starting point to come up with a valuation.

3) Price earnings ratio. What multiple of earnings are you paying? This is a key metric. A good way to look at a business valuation is to invert this ratio to get an earnings yield. For example, if you are paying $100 for $10 in earnings. You are getting a 10% earnings yield on your money. Pay $50 and you are getting 20%. Interestingly many private businesses trade at around 5 times earnings, giving you a 20% earnings yield.

Finally, there is Net Present Value. The correct value of any business is the present value of the future free cash flows discounted to a present value by the appropriate risk adjusts rate.
The problem with this measure is that it involves a lot of estimating. Estimating future sales, future margins and future interest rates.

In the end, the market says the price that a business will sell for. Do all of the above, but make sure you know the going rate on recent sales in the industry. There is good price and a bad price to pay for any business.

Good luck.
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