Factors Influencing Valuation Process
Factors Influencing Valuation Process. Generally speaking the value of the firm should depend upon the expected return, measured in terms of net cash inflows generated by the firm’s assets and the future returns.
Specifically the following factors influence the value of a firm:
The comparative position
The first important factor influencing the valuation of an enterprise both in terms of quantity and quality is the competitive position of the same, or simply the enterprise’s past growth of sales, its future expected growth and its position within the enterprise. An enterprise in a strong competitive position will provide greater earning with more certainty than an enterprise in a poor competitive position.
The second important factor that influences the valuation of an enterprise is the profitability of the same. The expenses and the profitability ratios can determine the future earnings of an enterprise. The higher and more stable the earnings of a company, the greater and more stable its value. Profit margins have a strong impact on future earnings. Since dividends are directly influenced by earnings, the higher the earnings and the more stable they are, the greater the dividends also the greater the future value.
The operating efficiency
The third important factor that influences the valuation of an enterprise is the operating efficiency of the same. This factor has an influence in determining the quality and ability of an enterprise to earn money in future. Operating efficiency attempts to relate real input to real output. The operating efficiency of an enterprise is measured by its operating ratio and its break-event-point. The lower the operating ration, the higher the earnings and also the greater the future value.
The current financial position
The current financial position is the fourth important factor that influences the valuation of an enterprise. An enterprise should be in a good financial position to maintain its profitability and earnings for the common stockholders. The basic financial problem of the corporate management is to maintain a balance between liquidity and profitability. Too much cash or liquidity on the other hand does not help the profit of the enterprise. Idle funds are not productive funds. The ideal current financial position is the balance between excess liquidity and illiquidity. If there is ideal current financial position in the enterprise, this ideal current financial position will increase the value of the enterprise.
Capital structure characteristics
The capital structure characteristics being the fifth important factor influence the valuation of an enterprise. The method that the management uses in financing the company’s growth will have the influence upon the stability of earnings. As long as the earnings of the enterprise are above the costs of borrowed funds, the earnings per share of common stock are increased. The use of large amount of debt in the capital structure tends to make earnings unstable. Hence, if the proportion of owners’ equity in the capital structure is higher than that of debt, the earnings will be higher and at the same time the higher the earnings, the higher the value of the firm.
The sixth and the last important factor that influences the valuation of an enterprise is the efficiency or inefficiency of the management. The quality and the depth of management is essential to the future profitability of a business enterprise. Many analysts consider the quality of corporate management as the single most important factor influencing the future earnings and overall success of the enterprise. Without efficient management an enterprise could not maintain its comparative position or introduce new products. Hence, efficient or inefficient management has a great influence on the valuation of an enterprise.
Factors Influencing Valuation Process.