is there a definitive method of valuing a majority shareholding of a pvte limited company on the earnings basis method.. with reference to
1. which earnings
2. discount factor
the company is a service based company, no major tangible assets. and there are only 2 shareholders . The majority is selling to the minority and the valuation is carried for the minority shareholder
Replies (3)
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No
There is no definitive method unless such a method is specified in, say, a shareholder agreement?
Generally, you would be looking at a multiple of adjusted earnings. In this case adjustments might relate, for example, to an excess of director reward packages over market rates.
Discount factor, not much of a discount I would say, non-marketability could be taken care of through the multiple applied to earnings. It's a majority interest being sold to the minority so I can't see much to discount for lack of ability to influence.
It's all a matter of judgement...
..... based around the fundamental concept that what you are valuing is the FUTURE earnings stream from the shares being transferred.
On that basis the earnings you use should be what can reasonably be assumed as the future earnings - post tax, because those earnings are subject to tax. So history is helpful only to the extent that it enables you to make a judgement about the future. For that reason it is best to avoid averages and look at actual trends etc.
The multiple is a reflection of the return on capital the buyer would require to make the investment - so a required return of 20% equates to a multiple of 5. The return required by a buyer will be influenced by the QUALITY of the earnings and the RISK asociated with the investment. The better the quality (ie likelihood of achieving the earnings / growth prospects etc) and the lower the risk (competition / technology issues etc) the higher the multiple.
By definition, the smaller the company, the greater the risk, so smaller companies have lower multiples.
As a VERY general guide the mid range multiple for a small company would be around 4 to 5 - but can very significantly outside that.