The conceptual background behind the market approach is to use the behavior of buyers and sellers to arrive at a multiple which reflects the market. Market methods can be divided into two basic groups: guideline public companies and private company transactions.
There are some major distinctions between the underlying data used for each method. The public guideline company method uses information from publicly traded companies that are most similar to the company being valued. The appraiser’s analysis of comparability may include factors such as type of business, size, geographic operations, growth prospects, past historical operating performance and any other factors which may be appropriate. The appraiser identifies the most comparable companies and then derives valuation multiples based on the trading prices of the guideline companies’ stock as of the valuation date. This data is based on marketable, minority interests in the guideline companies.
Private company transaction methodology is generally based on the theory that a sufficient number of private transactions will emulate the market for that type of company. There are a number of databases which track private transactions of companies. The information is collected from business brokers and intermediaries involved in the transactions, who report the information to the database services. Each database contains different amounts of information regarding the companies. The information about these companies represents a non-marketable, control interest in the transaction companies.
So what is the difference? The public company transactions are evidence of the market value based on a large number of transactions which have been completed between buyers and sellers. That is the reason that a large number of public companies is not required in order to use the methodology to arrive at valuation multiples. Each company alone is evidence of the market.
Private company transactions may or may not take place at market value. Buyers and sellers have their own motivations for entering into transactions. There is only one transaction for each company, unlike with public companies where you could have anywhere from under one million to over 250 million trades in a single day. The concept behind private company transaction methodology is that with a sufficient number of transactions, the average or mid-point will represent what the market looks like. That is why more transactions are necessary under the private company transaction methodology. A few transactions may not be sufficient to represent the market.
What is important to understand is that each valuation is different. Applying any methodology is based on the facts and circumstances particular to the company being valued and the valuation date.
©2009 Florida Business Valuation Group
