Valuation Approaches and Methods

Income approach: 

• Most appropriate for businesses anticipating future earnings
  
  
• Capitalization of cash flows method
  - Stable state model, growth at rate of inflation, management does not have much visibility as to company’s future, projections are not reasonable or available
  - Earnings or cash flow divided by a capitalization rate
  
  
• DCF method (discounted cash flow) 
  – Considers future cash flows associated with owning investment
  – Most theoretically correct method (total return = dividends + capital gain event)
  – Dependent on projections, economic and industry factors
  – Consider free cash flows during projection period (three to five years) plus terminal or exit value
  – Present value cash flows with a discount (return) rate reflecting risks inherent in business and capital structure
  
  
• Historical results analyzed and adjusted to help estimate future cash flow
  
  
• Investors buy tomorrow’s cash flow
  
  
• Apply cap rate, discount rate or multiple to cash flows or earnings