Академический Документы
Профессиональный Документы
Культура Документы
Module 6 Assignment
Professor:
Chapter 17
2. Do you agree that there really are many situations in which closely held companies need to be
valued because of a desired or required sale of some portion of the ownership? Explain.
Yes. The future is unpredictable, and situations where a partner died, retired, or became disabled
or divorce can trigger the necessity of the business valuation. Unfortunately, not many
businesses considered the importance of the future and how it can affect the management and
control of the company. Some cases are resolved friendly, and some other instances specified the
"Sometimes, in a partnership, there are differences of opinion about the amount that should be
paid for the business interest that is being sold. Such disputes are often litigated in a legal forum
in "forensic" fashion. Additionally, many business sales or dissolutions are fraught with conflict
from the start. Family business dissolutions that result from divorce are often contentious.
Typically, divorces involve significant conflict already, and when the issue of valuing large
commonly owned assets such as a business is involved, there are major disagreements"
(Crumbley, Smith, & Heitger, 2017). Like any other sale, the seller and buyer have distinct
benefits from the sale. The higher the price, the better for the seller and the worst for the buyer
and vice versa. "To resolve such differences, business valuators are asked to provide an impartial
valuation that is developed in a professional and systematic manner" (Crumbley, Smith, &
Heitger, 2017).
References
Crumbley, D. L., Fenton, J. E. D., Smith, G. S., & Heitger, L. E. (2017). Forensic and
The Buy-Sell Agreement: What it is and why it is important? (n.d.). Retrieved April 16, 2020,
from https://www.buchananlaw.com/the-buysell-agreement
business plan. Business valuation is a sophisticated financial method that should be conducted by
a qualified valuation expert with the proper certification. Some of the reason why a business
-Exit Strategy Planning: When planning to sell a business, having a baseline value can help to
-Buy/Sell Agreements: An arrangement between principals can help to avoid future disputes.
interest.
-Mergers and Acquisitions: Valuation of the business help to determine if the price asked to
pay is a fair one when merging with another business or purchasing a company.
-Marital Dissolution: A reasonable market value of the business interests must be established
-Tax purposes: Avoid problems with the IRS by having an accurate, defensible, and
documented value.
Valuation is also needed for Lost business value, Minority shareholder distributions, Bankruptcy,
References
Crumbley, D. L., Fenton, J. E. D., Smith, G. S., & Heitger, L. E. (2017). Forensic and
Feilteau, R. P. (2017, February 9). Top 10 Reasons for a Business Valuation. Retrieved April 16,
7. Group these valuation approaches into asset-based, income approach, and market
approach types:
a. Adjusted book value method- Asset Based
b. Capitalization of earnings method-Income approach
c. Discounted future earnings method-Income approach
d. Guideline public company method-Market approach
e. Merger and acquisition method-Market approach
f. Rules of thumb approach-Market approach
o The value at which a capital asset is recorded on the books representing the outlay of
b. Replacement cost:
The www.merriam-webster.com/dictionary defines it as the cost of replacing property
c. Intrinsic value
“Intrinsic value is the value to a particular individual. Intrinsic value often arises in a
divorce situation where the sale of a business may not be possible, however, the court
still finds that the business has value to its owner or owners” (Crumbley, Smith, &
Heitger, 2017).
sellers with a reasonable knowledge of pertinent facts and not acting under any
Fair market value of the minority shareholder’s specific shares, discounted for
minority interest status only, without discounts for lack of marketability” (Crumbley,
2. “Fair market value of the minority shareholder’s specific shares, discounted for
minority interest status only, without discounts for lack of marketability. This
approach is a compromise view that attempts to give some value to the shares of the
dissenting minority shareholder without unfairly penalizing the business and its
discounted for minority interest status and lack of marketability. This view of fair
value tends to favor the company at the expense of the minority shareholder, because
it does not give the minority shareholder anything more than he or she already has”
discounted future earnings method uses forecasts for the earnings of a firm and the firm's
estimated terminal value at a future date, and discounts these back to the present using an
appropriate discount rate. The sum of the discounted future earnings and discounted
terminal value equals the estimated value of the firm” (Kenton, 2020).
income stream into a value. This conversion involves the application of an appropriate
capitalization rate, which incorporates both an investor’s required rate of return for risk
and a factor for future growth in income. The resulting value is ultimately based on the
present worth, today, of anticipated benefits the buyer will receive in the future (in the
form of income, cash flow, or dividends)” (Crumbly, Smith, & Heitger, 2017).
risk and expected return for assets, particularly stocks. CAPM is widely used throughout
finance for pricing risky securities and generating expected returns for assets given the
References
Crumbley, D. L., Fenton, J. E. D., Smith, G. S., & Heitger, L. E. (2017). Forensic and
webster.com/dictionary
Kenton, W. (2020, January 29). Capital Asset Pricing Model (CAPM). Retrieved April 16, 2020,
from https://www.investopedia.com/terms/c/capm.asp
Kenton, W. (2020, January 29). Introduction to Discounted Future Earnings. Retrieved April 16,
18. Refer to the information in Exercise 17-17 but use the average income approach to find the
base valuation rather than the weighted average method. Determine the value of the 12 percent
Average Annual Earnings (000) * Price Earnings Ratio to capitalize =$720.00*9 = $6,480.00
The 12% owned by the retiring employee before applying discounts (000)
=$6,480.00*12% = $777.60
=$544.32-$77.76= $466.56*1000
21. E&K Company has a net book value of $250,000. The company has a 10 percent cost of
capital. The firm expects to have profits of $45,000, $40,000, and $55,000 respectively for the
next three years. The company pays no dividends and depreciation is five percent per year of
book value.
a. Using the excess earnings model, should the firm be valued at more or less than its book
value?
The Capitalization of Excess Earnings Method is a combination of the cost and income approach
1) “Multiply the net tangible assets of the company by the rate of return such assets might
2) “Deduct this estimate of earnings from the total earnings to derive that portion of the
earnings that might be attributed to the intangible assets” (Crumbly, Smith, & Heitger,
2017).
estimate the total value attributed to the intangibles” (Crumbly, Smith, & Heitger, 2017).
4) “Sum the value attributed to intangibles and the market value of the net tangible assets of
the firm to estimate an overall fair market value” (Crumbly, Smith, & Heitger, 2017).
There is not enough information to complete all of these steps, but we can consider that the firm
should be valued at more than the book value because the earnings are over the cost of capital.
b. What, if anything, are the company’s abnormal earnings for the next three years?
“Abnormal earnings are: AEt= Actual earning t-Required or "normal" earnings t
Where NOPAT is the firm's net operating profit after taxes, r is the cost of equity capital and BV
Cost of
Assets-Liabilities $250,000 Earnings Capital Total
Cost of Capital 10% 25,000 45, 25, 20,0
Depreciation 5% 12,500 Year 1 000 000 00
40, 25, 15,0
Year 2 000 000 00
55, 25, 30,0
Year 3 000 000 00
65,000
c. What is your best estimate of the firm’s value using the excess earnings model?
Capitalized Value = (Cost of Capital + Average excess earning)/ cost of capital factor
= (25000+9167)/0.1
= $341,667
References:
Calculating abnormal earnings and analyzing investment options. (n.d.). Retrieved April 18,
investment-options-77725
Crumbley, D. L., Fenton, J. E. D., Smith, G. S., & Heitger, L. E. (2017). Forensic and
The company’s weighted average cost of capital is 12 percent. The company forecasted the
“The discounted cash flow method is designed to establish the present value of a series of future
cash flows. Present value information is useful for investors, under the concept that the value of
an asset right now is worth more than the value of that same asset that is only available at a later
date. An investor will use the discounted cash flow method to derive the present value of several
competing investments, and usually picks the one that has the highest present value” (Bragg,
2018).
“Palepu, Healy, and Bernard, the authors of Business Analysis & Valuation Using Financial
Statements, suggest these three steps in calculating discounted cash flow methods:
1. Forecast the free cash flows available over a finite period (e.g., 5–10 years),
2. Forecast the cash flows beyond the terminal period using some simplifying assumption,
3. Discount the free cash flows” (Crumbly, Smith, & Heitger, 2017).
Estimated
Free Cash PV of Free
Flows PV factor Cash Flow
PV Factor Calculation @ 12% Year A B A*B
10,000,00
1.0000 =1+0.12 1.12 0.8929 1 0 0.8929 8,928,571
15,000,00
0.8929 =1+0.12 1.12 0.7972 2 0 0.7972 11,957,908
20,000,00
0.7972 =1+0.12 1.12 0.7118 3 0 0.7118 14,235,605
23,000,00
0.7118 =1+0.12 1.12 0.6355 4 0 0.6355 14,616,916
25,000,00
0.6355 =1+0.12 1.12 0.5674 5 0 0.5674 14,185,671
20,000,00
0.5674 =1+0.12 1.12 0.5066 6 0 0.5066 10,132,622
20,000,00
0.5066 =1+0.12 1.12 0.4523 7 0 0.4523 9,046,984
20,000,00
0.4523 =1+0.12 1.12 0.4039 8 0 0.4039 8,077,665
20,000,00
0.4039 =1+0.12 1.12 0.3606 9 0 0.3606 7,212,200
20,000,00
0.3606 =1+0.12 1.12 0.3220 10 0 0.3220 6,439,465
15,000,00
0.3220 =1+0.12 1.12 0.2875 11 0 0.2875 4,312,142
15,000,00
0.2875 =1+0.12 1.12 0.2567 12 0 0.2567 3,850,126
15,000,00
0.2567 =1+0.12 1.12 0.2292 13 0 0.2292 3,437,613
15,000,00
0.2292 =1+0.12 1.12 0.2046 14 0 0.2046 3,069,297
15,000,00
0.2046 =1+0.12 1.12 0.1827 15 0 0.1827 2,740,444
15,000,00
0.1827 =1+0.12 1.12 0.1631 16 0 0.1631 2,446,825
15,000,00
0.1631 =1+0.12 1.12 0.1456 17 0 0.1456 2,184,665
15,000,00
0.1456 =1+0.12 1.12 0.1300 18 0 0.1300 1,950,594
15,000,00
0.1300 =1+0.12 1.12 0.1161 19 0 0.1161 1,741,602
15,000,00
0.1161 =1+0.12 1.12 0.1037 20 0 0.1037 1,555,001
References:
Bragg, S. (2018, May 3). The discounted cash flow method. Retrieved April 18, 2020, from
https://www.accountingtools.com/articles/the-discounted-cash-flow-method.html
Calculating abnormal earnings and analyzing investment options. (n.d.). Retrieved April 18,
investment-options-77725
Crumbley, D. L., Fenton, J. E. D., Smith, G. S., & Heitger, L. E. (2017). Forensic and
webster.com/dictionary
Kenton, W. (2020, January 29). Capital Asset Pricing Model (CAPM). Retrieved April 16, 2020,
from https://www.investopedia.com/terms/c/capm.asp
Kenton, W. (2020, January 29). Introduction to Discounted Future Earnings. Retrieved April 16,
The Buy-Sell Agreement: What it is and why it is important? (n.d.). Retrieved April 16, 2020,
from https://www.buchananlaw.com/the-buysell-agreement