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Business Valuation Roadmap – Asset Approach

Most business owners will only need a business valuation only a handful of times throughout their career and are likely unfamiliar with how value is determined. In most cases, they have an idea of what their company is worth based on the most favorable variables they can identify. This may include a calculation based on last year’s earnings, value of company owned assets or what similar businesses in their area have sold for. While these are all reasonable assumptions, the truth is that there are only three methods used when determining the value of a company. In this article, we will discuss the asset approach (or cost approach) which is generally used to determine the value of a non-operating business or one that is operating with ongoing losses. The purpose is to determine the fair market value of the company’s total assets and liabilities to arrive at a value amount. To help clients, prospects and others understand the asset approach and related methods, DiGabriele, McNulty, Campanella & Co. has provided a summary of key facts below.

What is the Asset Approach?

This approach measures the current market value of a company’s assets subtracted from its liabilities to determine the value of a business. The purpose of this method is to determine the cost to create another business like the one in question which will produce similar economic benefits for its owners. As part of their analysis, valuation professionals need to determine which of the company’s assets and liabilities should be evaluated and how to measure each as all may not need to be included. This method is well suited for a company whose primary business is to act as a holding company for other companies or real estate.

Asset Approach Methods

There are two primary methods for determining a company’s value, which include:

  • Asset Accumulation Method – This method is mainly used to value companies with a significant number of assets and earnings that don’t support a value greater than the value of tangible assets. Examples of such companies may include real estate holding or oil and gas companies. It uses the sum of the listed tangible assets and liabilities listed on the balance sheet with the goal of arriving at a total value based on the value of individual assets. A step up or discount must be applied to account for the cost to obtain similar assets in current market conditions. Finally, the intangible assets (e.g., strategic partnerships and intellectual property) and liabilities (e.g., pending litigation or tax obligations) of a company are considered and a final value assigned.
  • Capitalized Excess Earnings Method – This method is also known as the Treasury Method because it was introduced by the Department of the Treasury in the 1920’s to determine the value of a company’s goodwill. The basic concept behind this method is that it seeks to determine the value of a company beyond its tangible assets by separating and assigning a value to its intangible assets. It arrives at a value by determining income produced by tangible assets and adds it to the value of intangible assets. It’s important to note that this method is rarely used because of the subjective nature of determining intangible asset value and recent criticism in several court rulings

Contact Us

If you are considering purchasing a company it’s important to be aware of the various valuation methods available and their purpose. This will help to ensure you can have an informed discussion with your valuation professional. Remember, the condition of the company and purpose for the business valuation will dictate which of the approaches makes the most sense for your situation. If you have questions about the asset approach or need assistance with a business valuation, DiGabriele, McNulty, Campanella & Co. can help. For additional information please call us at 973-243-2600, or click here to email us. We look forward to speaking with you soon.

 

Accounting Firm | New Jersey CPA - DiGabriele, McNulty, Campanella & Co is a New Jersey CPA Firm focused on providing forensic accounting, forensic investigation and damage calculations for litigation and other purposes. Also offer traditional tax, accounting and audit services to companies across the Tri-state region.

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