What is business valuation? 6 most accurate valuation methods

Business valuation not only supports CEOs and CFOs in financial and investment planning but is also a crucial factor in establishing the proper value for a business. However, accurately determining a company’s value is not easy. The article below will provide an overview of the concept of business valuation, the factors affecting business value, and the methods and formulas for calculating business value.

1. What is business valuation?

Business valuation is the process of determining the true value of a business, often used in various contexts such as mergers and acquisitions, corporate restructuring, or when a company wants to issue shares to the public.

The value of a business to investors is determined based on two values:

• Liquidation value: The value of all of a company’s assets when it ceases business operations and sells off all its assets.
• Going concern value: The present value of the cash flow that the business can generate in the future.

Thus, it can be simply understood that: “Business valuation is the determination of business value”.

2. The purpose of business valuation

Business valuation is the process of determining the value of assets based on standards and appraisal methods appropriate for the purpose of the transaction. Valuation plays a crucial role in a market economy, serving many purposes for stakeholders. Some specific purposes of valuation include:

• Issuing shares: Valuation helps determine the value of equity, which can then be used to price shares upon issuance.
• Selling shares to the public: Valuation helps determine the value of shares when sold to the public.
• Proving financial capacity: Valuation helps prove one’s financial capacity when participating in business and investment activities.
• Restructuring the business, improving business efficiency: Valuation helps determine the value of one’s assets, which can then be used to develop solutions for business restructuring and improving business efficiency.
• Serving equitization, joint ventures, and capital contributions: Valuation helps determine the value of one’s assets, thereby enabling effective equitization, joint venture, and capital contribution activities.
• Mergers and acquisitions (M&A), consolidation or demerger, attracting investment capital: Valuation helps parties involved in a transaction determine the business value, enabling them to negotiate prices and execute the transaction effectively.
• Referencing market value: Valuation helps parties involved in a transaction reference the market value of assets, enabling them to make appropriate transaction decisions.

3. Why is accurate business valuation necessary?

Business value is special information that encompasses the real values of the business and reflects the future value it can bring. In the modern market economy, financial, stock, and other asset markets are developing strongly. Typically, a business is only valued when it is preparing to cease operations and intends to sell. However, a business should be valued at least once a year for the following reasons:

• Business valuation helps owners be proactive in unexpected situations, make quick decisions, and protect their interests when they want to sell the business.
• Business valuation makes it easier for a company to secure its interests when deciding to equitize or invite more shareholders to join.
• Business valuation helps a company quickly seize opportunities for sale or merger with another business.
• Business valuation helps a company be more confident and have greater credibility when seeking investors or partners.
• Business valuation makes it easier for a company to borrow money from banks.

In summary, business valuation is an important tool that helps managers make correct and effective decisions in the context of the modern market economy.

4. What factors affect business value?

To accurately value a business, we need to consider the factors that impact its value. These factors can be divided into two main groups: External factors and internal factors.

4.1 External factors

Economic situation

The overall economic environment affects business value. When the economy grows, business value typically increases, and vice versa. The economic environment impacts business value through macroeconomic indicators, such as growth rate, price index, exchange rate, and stock market index. Even small changes in these indicators will affect the business’s value.

Science and technology

In today’s technological era, businesses are facing fundamental changes in their methods of organizing production and business operations. These changes are driven by technological advancements, which in turn affect business value.

Competitors

Direct and indirect competitors also influence a business’s value. Intense competition can decrease the value of a business.

Legal policies

Legal regulations and policies can also affect business value. Changes in tax regulations, property rights, or trademark rights can have a strong impact on a business’s value.

Customers and suppliers

Customers and suppliers are two important partners for a business. A good relationship with customers and suppliers will reflect the business’s level of development, expansion strength, and production and business operations.

4.2 Internal factors

Capital structure

The organization of the capital structure and shareholder structure within a business affects its value. A stable capital structure and consensus among shareholders often build investor confidence.

Business performance

The business’s profitability, labor productivity, operational efficiency, and growth potential are also important factors in determining its value.

Asset value

The value of assets and property rights, such as factories, machinery, technology, and trademark rights, play an important role in determining a business’s value. If a business owns many assets, it implies that the business has a high value, and vice versa.

Profit

The current ability to generate profit and the potential for future profit growth are also important factors in determining a business’s value.

Employees

The skill level of employees is a crucial internal factor that determines a business’s value. The skill level of employees is reflected in their knowledge, skills, experience, and work attitude. These factors directly impact the business’s productivity, product and service quality – which helps the business enhance its competitiveness and increase its valuation.

5. Basis of value for business valuation

The basis of a business’s value is either market value or non-market value. Market value is the value at which a business can be traded on an open market, between knowledgeable and unconstrained buyers and sellers. Non-market value is the value of a business for which a market value cannot be determined.

The basis of a business’s value is determined based on the following factors:

• Purpose of valuation: The purpose of the valuation is the deciding factor for the basis of the business’s value. For example, if the valuation is for a business sale, the basis of value is market value. If the valuation is for a capital contribution, the basis of value may be non-market value.
• Legal characteristics: The legal characteristics of the business include its business type, charter capital size, legal status, etc.
• Economic and technical characteristics: The economic and technical characteristics of the business include its assets, capital sources, production and business activities, etc.
• Market characteristics: The market characteristics of the business include market size, competitive situation, customer demand, etc.
• Client requirements: The valuation client’s requirements can be recorded in the valuation contract.
• Legal regulations: Relevant legal regulations must be complied with during the process of determining the basis of the business’s value.

The appraiser needs to make an assessment of the operating status of the business being valued after the valuation date. Typically, the value of a business is its going concern value. However, if the business will cease operations after the valuation date, its value will be its limited-life operating value or liquidation value.

Business valuation methods must be selected and applied in a manner consistent with the basis of the business’s value and the appraiser’s assessment of the business’s operating status at and after the valuation date.

6. Business valuation methods

There are three main approaches to business valuation, including:

• Market approach: The value of the business is determined based on the value of similar businesses that have been transacted in the market.
• Cost approach: The value of the business is determined based on the cost of reproducing or replacing the business.
• Income approach: The value of the business is determined based on the present value of the cash flows that the business can generate in the future.

The business being valued needs to select valuation approaches and methods based on the provided records, documents, and self-collected information to appraise the business’s value.

6.1 Valuation method using average ratios

Section 3, Part II of the Vietnamese Business Valuation Standard No. 12, issued with Circular 28/2021/TT-BTC, specifies the average ratio method in business valuation as follows:

The average ratio valuation method is a method of estimating the equity value of the business being valued by using the average market ratios of comparable companies.

Comparable companies must meet the following conditions:

• Be consistent with the business being valued in terms of primary business sector, business risk, financial risk, and financial indicators.
• Have information on successfully traded stock prices in the market at or near the time of valuation, but not more than 01 year prior to the valuation date.

The market ratios to consider for use in the average ratio method include the average price-to-book value of equity ratio (P/B), the average price-to-sales ratio (P/S), the average price-to-earnings ratio (P/E), the average enterprise value-to-earnings before interest, taxes, depreciation, and amortization ratio (EV/EBITDA), and the enterprise value-to-sales ratio (EV/S).

Cases for applying the average ratio method

To apply the average ratio method, there must be at least 03 comparable companies. Priority is given to using comparable companies that are listed on the stock exchange or registered for trading on UPCoM.

Implementation principles

• The financial indicators and market ratios of the comparable companies and the business being valued must be determined in a consistent manner.
• Financial indicators and market ratios of comparable companies collected from different sources must be reviewed and adjusted to ensure consistency before being used in the valuation.

Steps to determine the business’s equity value

• Step 1: Evaluate and select comparable companies.
• Step 2: Determine the market ratios to be used to estimate the value of the business being valued.
• Step 3: Estimate the equity value based on appropriate market ratios and make necessary adjustments.

Formula for business valuation based on the P/E ratio

The P/E method values a business by comparing its market stock price with the after-tax profit of companies in the same industry in the market.

P/E = Price per share / Earnings per share “or” P/E = Total market capitalization / Total net income

To apply this formula, businesses need to have competitor companies in the market that are listed on the stock exchange or the UPCoM exchange for comparison.

6.2 Transaction price valuation method

The transaction price-based business valuation method is a way of valuing a business by estimating the equity value of the business being valued based on the transaction price of successful transfers of contributed capital or shares of that same business in the market.

When to apply the transaction price method?

To apply the transaction price method, the business being valued must have at least 03 successful transactions involving the transfer of contributed capital or shares in the market. Additionally, the time of these transactions must not be more than 01 year prior to the valuation date.

Application principles

The valuer needs to consider and suggest adjusting the prices of successful transactions to be appropriate for the valuation date, if necessary.

How to calculate equity value

The equity value of the business being valued is calculated based on the volume-weighted average price of at least 03 of the most recent successful transactions involving the transfer of contributed capital or shares prior to the valuation date.

In cases where the business to be valued is a company whose shares are listed on the stock exchange or registered for trading on UPCoM, the market value of equity will be determined based on the transaction price or closing price of the shares of the business being valued at or near the time of valuation. This must be based on transactions of these shares within a period of no more than 30 days before the valuation date.

6.3 Asset-based valuation method

The asset-based approach is a method of estimating the value of a business to be appraised based on the total value of the assets owned and used by that business.

In the case of valuing state-owned enterprises and one-member limited liability companies, where a state-owned enterprise invests 100% of its charter capital to convert into a joint-stock company, the asset-based approach will be applied in accordance with the law on equitization.

Implementation Principles

• All of the business’s assets, including both operating and non-operating assets, will be considered during the valuation process.
• The Director (General Director) of the business being appraised must cooperate in organizing the inventory and classification of assets currently owned, managed, and used (including property rights), and provide documents proving ownership and usage rights to support the appraisal process. 

In cases where the appraiser does not have sufficient information and necessary documents or lacks support to inspect the assets, the appraiser needs to evaluate and consider making assumptions (if necessary), while also noting this limitation in the appraisal report.

When appraising a business based on the market value of its assets, the value of the assets in the accounting books must accurately reflect the market value, except in other special cases.

The implementation steps include

• Step 1: Estimate the total value of tangible and financial assets of the business to be appraised.
• Step 2: Estimate the total value of intangible assets of the business to be appraised.
• Step 3: Estimate the equity value of the business.

6.4 Discounted Free Cash Flow Method

The Discounted Free Cash Flow to Equity (DCF) method determines the equity value of the business to be appraised by estimating the total present value of its Free Cash Flow to Equity (FCFE).

In cases where the business to be appraised is a joint-stock company, the DCF business valuation method is used with the assumption that the company’s preferred shares carry the same rights as common shares. This assumption must be clearly stated in the limitations section of the Valuation Certificate and the Valuation Report.

Steps to determine the equity value of the business:

• Step 1: Forecast the business’s free cash flow.
• Step 2: Estimate the Weighted Average Cost of Capital (WACC) of the business to be appraised.
• Step 3: Estimate the terminal value.
• Step 4: Estimate the equity value. The equity value of the business to be appraised is calculated as the sum of the present value of the free cash flows and the present value of the terminal value.

Formula for calculating Free Cash Flow to Equity

FCFE = Net Income + Depreciation – Capital Expenditures – Change in Net Working Capital) – Principal Debt Repayments + New Debt Issued

Net income is the profit after deducting all expenses, including tax expenses and expenses from non-operating assets. Earnings Before Interest After Taxes (EBIAT) is calculated from Earnings Before Interest and Taxes (EBIT) as follows:

EBIAT = EBIT x (1-T)

Where T is the corporate income tax rate

The effective tax rate is used to calculate EBIAT for the period with available financial statements. The current corporate income tax rate is used to calculate EBIAT for the cash flow forecast period.

T_effective = (Profit before tax – Profit after tax) / Profit before tax

Capital expenditures are costs used to invest in long-term assets, including:

• Fixed assets
• Other similar long-term assets
• Other long-term operating assets
• Capital contributions to other entities

See more:

• What are intangible fixed assets? How to identify and account for fixed assets
• What is the historical cost of fixed assets? How to determine the historical cost of fixed assets
• How to account for the liquidation of fixed assets [Updated 2024]

Formula for calculating working capital excluding cash and short-term non-operating assets:

Working capital excluding cash and short-term non-operating assets = (Short-term receivables + Inventory + Other short-term assets) – Short-term liabilities excluding short-term loans

6.5 Dividend Discount Model Method

The Dividend Discount Model (DDM) is used to determine the equity value of the business being appraised by discounting its dividend stream. 

Steps to determine equity value

• Step 1: Forecast the dividend stream of the business being appraised.
• Step 2: Estimate the cost of equity
• Step 3: Estimate the terminal equity value at the end of the forecast period

Case 1: The dividend stream after the forecast period is a no-growth perpetuity. The formula to calculate the terminal value is:  Vπ = Dπ + 1 / Re

Case 2: The dividend stream after the forecast period grows at a constant rate each year indefinitely. The formula to calculate the terminal value is: 

Vπ = Dπ + 1 / Re – g

Where:

• Dn+1: The company’s dividend in year n + 1
• g: the growth rate of the dividend stream

The dividend growth rate is forecasted based on the Retention Ratio and Return on Equity.

Case 3: The business ceases operations at the end of the forecast period, the terminal value is determined by the liquidation value of the business being appraised.

Step 4: Estimate the equity value of the business being appraised by calculating the sum of the present value of the dividend stream and the present value of the terminal value.

6.6 Free Cash Flow to Equity Discount Method

The Free Cash Flow to Equity (FCFE) discount method determines the equity value of the business being appraised by estimating the sum of the discounted free cash flows to equity of the business being appraised. 

Steps to determine equity value

• Step 1: Forecast the free cash flow to equity of the business being appraised.
• Step 2: Estimate the cost of equity of the business being appraised.
• Step 3: Estimate the terminal equity value at the end of the forecast period.

Formula for discounting free cash flow to equity:

DCF = CF1/(1+r)^1+ CF2/(1+r)^2+ …+ CFn/(1+r)^n

Where:

• DCF – Discounted cash flow: The discounted cash flow or the value of the company.
• CF – Cash flow: The cash flow that the company is expected to generate in the near future (year 1, year 2,… year n).
• r – discount rate: The discount rate for the company’s cash flow.

This formula is often applied to businesses with large capital resources, relatively good financial standing, high liquidity, high debt-paying ability, and the capacity to generate profits that cover all types of expenses.

7. The Value of Intangible Assets in Modern Enterprises

In the digital era, a company’s value lies not only in its factories, machinery, or inventory, but also in “invisible” factors such as brand, technological know-how, customer data, or intellectual property rights. It is these intangible assets that act as leverage, helping businesses create a competitive advantage, maintain customer loyalty, and drive long-term growth.

7.1 Concept and Characteristics

Intangible assets are assets that lack physical substance but provide long-term economic benefits to a business. They include:

• Brand, business reputation

• Patents, inventions, copyrights

• Software, algorithms, customer data systems

• Long-term contracts, exploitation rights, or special licenses

• Expert knowledge, business secrets (know-how)

Unlike tangible assets, these factors are not easily measured on financial statements but create a sustainable competitive advantage.

7.2 Role in Enterprise Value

• Increasingly significant proportion: International studies show that in many large corporations, intangible assets account for 60–80% of the market value.

• Source of superior profits: A strong brand helps businesses sell products at a higher price; customer data helps optimize sales and marketing; patents open up exclusive product exploitation.

• Creating long-term advantages: Although tangible assets can depreciate, well-managed intangible assets will increase in value over time.

8. Common Intangible Asset Valuation Methods

Intangible assets are particularly valuable to modern enterprises, but determining their value is not simple. Currently, there are three groups of methods commonly used worldwide and in Vietnam: the cost approach, the market approach, and the income approach.

8.1. The Cost Approach

Principle: The value of an intangible asset is determined based on the cost required to create or replace that asset under current conditions.

Types of costs often considered:

• Historical Cost: The total cost incurred to build, research, develop, or acquire the intangible asset.

• Replacement Cost: An estimate of the cost required to create a similar intangible asset at the present time.

• Reproduction Cost: Determining the cost to reproduce an exact replica of the asset.

Example: A company develops internal management software and has spent 10 billion VND on research, personnel, and IT infrastructure. If valued using the cost approach, this software could be recognized with a minimum value of 10 billion VND. If the current replacement cost increases (due to more expensive labor and technology), the value could be higher than the original figure.

Advantages:

• Simple calculation, easy to apply when clear cost data is available.

• Suitable for valuing newly created assets or those that have not yet generated cash flow.

Disadvantages:

• Does not reflect the future profitability of the asset.

• The value of brand, reputation, customer data, etc., is often much higher than the costs incurred, so this method tends to “undervalue” intangible assets.

8.2. The Market Approach

Principle: The value is determined by comparing it with transactions for the sale or transfer of similar intangible assets in the market.

Basic Process:

1. Find comparable transactions (franchises, copyrights, patents, brands).
2. Determine the price or royalty rate applied in those transactions.
3. Adjust for differences in scale, reputation, market share, industry, and region.

Example: An international coffee franchise charges a 5% royalty fee on revenue. A Vietnamese coffee brand with a comparable scale and recognition can reference this fee to estimate its brand value.

Advantages:

• Reflects the actual market value.

• Persuasive to investors and shareholders as it is based on existing transaction data.

Disadvantages:

• Difficult to find transparent transaction data, especially in Vietnam, where franchise and IP transfer agreements are rarely made public.

• Difficult to adjust accurately for specific differences (e.g., same industry but different customer segments).

8.3. Income Approach

Principle:
Valuation is based on the future cash flow that the intangible asset can generate. This cash flow is then discounted to its present value to determine the asset’s worth.

Common techniques:

1. Relief-from-Royalty Method:

   • Assumption: If the business did not own the brand, patent, etc., it would have to pay a royalty fee to use it.

   • Formula:

     Intangible Asset Value = Related Revenue × Reasonable Royalty Rate × (1 – Corporate Income Tax) ÷ Discount Rate

   • Example: An F&B brand generates 100 billion in revenue/year, and the average market royalty fee is 5%. The saved benefit = 5 billion/year. Discounting this cash flow will yield the brand’s value.

2. Excess Earnings Method:

   • • Calculates the excess profit after deducting the normal return from tangible assets.

     • This “surplus” profit is considered to be generated by intangible assets.

3. Multi-Period Excess Earnings Method (MPEEM):

• • An advanced variation of the Excess Earnings method, calculating surplus earnings over multiple periods and discounting them to the present.

  • Often used for intangible assets associated with long-term cash flows, such as customer data and long-term contracts.

Advantages:

• Accurately reflects the income-generating nature of intangible assets.

• Can separate the value of each type of asset (brand, data, patents).

Disadvantages:

• Reliant on forecast assumptions (growth, discount rate, royalty rate).

• Results can be significantly skewed if forecasts are inaccurate or biased.

9. Frequently Asked Questions

10. Conclusion

In summary, business valuation is a crucial process in assessing a company’s worth. We hope this article will be helpful to you in determining and evaluating your business’s value. We wish you success!