Valuation
Candlefocus EditorIn general, a company can be valued on its own on an absolute basis, which means taking into account the company’s financial statements, competitive advantage, management performance, and other relevant factors to come up with a value. Or else, it can be compared to other similar companies, or assets, on a relative basis to compute what’s known as a relative valuation.
Financial modeling is a key factor in developing a valuation of a company. It is a quantitative process in which complex financial statements and data are used to calculate a company’s past performance, financial position, and potential future cash flows. This information is then used to determine what a potential investor might be willing to pay to own an interest in it. Realistic assumptions and conservative estimates are used in the model to ensure accurate and defendable conclusions.
Although the result of a quantitative analysis, the accuracy of a valuation often relies on the judgement and assumptions of the analyst. Professionals must consider industry trends, macroeconomic factors, and other qualitative components that can affect the future prospects of a company when adjusting for variables such as debt and cash reserves.
An accurate valuation helps to ensure that the market price set for an asset or company is appropriate in relation to fair market value. It can provide perspective to support certain decisions, such as the sale of a business or the usage of certain financial instruments. As such, valuations are regularly updated to reflect changes in the economy and industry, helping decision makers stay informed in the constantly evolving investment landscape.