The Market Approach to Valuation

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The market approach to valuation, which is sometimes called “comparative company analysis,” compares the target company to the operations and values of publicly traded companies of comparable size, growth, characteristics, industry, market area, profitability and overall financial condition.

The market value of the company being used as a comparable is calculated based on the number of shares outstanding multiplied by the current stock price.  The most important task for the appraiser in this approach is identifying comparable publicly-traded companies.  The appraiser then collects data on the comparable companies from public filings, such as the issuer’s annual reports, financial analysts who follow the company, and company reports published by Value Line, Moody’s and other financial services firms.

Stated simply, the appraiser will use the operating metrics and valuation multiples of comparable public companies to determine an appropriate valuation multiple for the privately held company.

Some consider the market approach superior to the others because the use of comparables will ensure the consideration of industry trends, business risks and market growth.

Proponents of the market approach also contend that market efficiencies make the trading values of comparable companies an excellent indicator of value.  However, no two companies are perfectly alike.  There is considerable discretion in selecting so-called comparable companies.  Therefore, appraisers that rely on this approach are often criticized for failing to do a true apples-to-apples comparison.

This concludes the Illinois Business Divorce Report’s multipart series on valuation approaches.

(This is for informational purposes and is not legal advice.)

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