In mergers and acquisitions (M&A), the valuation process of the target company plays a key role in the ultimate success or failure of the deal. In order to calculate the value of a company, it is essential to use an accurate and reliable method that takes into account all variables and gives a fair idea of what the target company is worth.
What is the valuation of a company in mergers and acquisitions?
The economic valuation of a company is carried out by means of a set of analyses of its quantitative and qualitative characteristics with the aim of translating them into a monetary expression. The result takes the form of a more or less reduced range of values within which the real economic or shareholder value of the company, as objective as possible, will be found.
Knowing the valuation of a company is of great importance for making the best strategic decisions in financial market listings, private equity investments in unlisted companies, loan applications and especially in mergers and acquisitions.
From the value, the final price is determined, taking into account external variables such as the rigidity or fluidity of equity capital, ongoing concentration processes within the sector, the efficiency of financial markets. As for external variables, the most common are the transparency of communications and the credibility of the commercial strategies implemented and revenues.
4 Methods for valuing a company
There are several different methods for calculating the value of a company. Here are four of the most common ones:
The book value
The book value reflects the company’s balance sheet. It is calculated by taking the total balance of the company’s assets and subtracting its liabilities.
The value of each share or interest can then be determined by dividing the book value by the number of shares or interests.
The liquidation value
The liquidation value is the minimum value of a company and is equal to the sum of the individual parts. To calculate it, individual assets such as property, machinery, inventories, etc. are valued at realistic market prices. The company’s debts, mandatory provisions and liquidation costs are then deducted.
The sales multiple
It is a common method in mergers and acquisitions, as it is a good way to check whether the purchase price of the company to be evaluated is realistic. To calculate the sales multiple, the purchase prices of similar companies that have recently been sold are taken into account. We analyse for what multiple of profit or turnover they have been sold for and apply the same factor to the company we are evaluating.
Price Earning Ratio (PER)
The Price Earning Ratio (PER) measures the ratio between the share price and the earnings per share. It refers to the total number of times the profit is contained in the price of a share. In other words, a PER of 5 means that the initial investment will only pay off after five years of accumulated profits.
The PER is calculated in two ways:
- PER = Market value of the company (number of shares x share price) divided by net profit.
- PER = market price of the share divided by the earnings per share (EPS).
Do you need advice on the valuation of your company in order to sell it? You can count on the support of the M&A experts at Confianz.