# Valuation Checklist

Business owners always want to know the value of their business. It is the same as checking in on their share portfolio. The difference is that listed shares have a share price, and the unlisted company doesn’t. It’s not so easy to look up the value of an unlisted company

It is worth knowing that a share price might bounce around due to market volatility but that does not mean the value of the underlying business has materially changed. Once the foundation assumptions to a valuation have been determined it requires a significant shift in assumptions for the valuation to change.

If knowing the value of your unlisted business is important to you, you might carry out a valuation once a year. This shouldn’t be much more than a quick update of a few inputs on an Excel model once you have a base valuation.

Forecasting the future cash flows and discounting them using an appropriate cost of capital is a standard valuation method. The hardest part is balancing the ART (assumptions about risk and the future cash flows) and the SCIENCE (evidence-based inputs and calculations).

Here is a checklist of the inputs and steps required to value your unlisted business:

1. Five years of historical financial statements from which a track record and trends can be established.
2. Using the historical I/S and B/S, calculate descriptive statistics, mostly as a percentage of sales. These are used to forecast the future I/S and B/S. Science only.
3. Forecast sales growth and operating margins ten years into the future…art is needed here!
4. Using items 2 and 3, determine the future income statements and balance sheets.
5. Calculate the future free cash flow (FCF) from the forecasted financial statements.
6. Calculate an appropriate cost of capital (WACC). For an unlisted business in South Africa, 20% is a good number.
7. Determine a terminal growth rate. This is a growth rate for the years beyond the forecast. Typically the sales growth rate used in year 10 of the forecast can be used here. 5% — 7% is not unusual (this part is all art).
8. Calculate the terminal value. This value of the cash flows for years 11 and onwards.
9. Discount the future cash flows and the terminal value to get a time and risk-adjusted present value. This is called the Enterprise value.
10. From the Enterprise value, subtract the outstanding debt and add the cash to get the Equity value.
11. Divide the Equity value by the number of issued shares to get the notional share price.

Here are several formulas required along the way:

• FCF = Ebit + Interest income — Tax — change in working capital (net of cash and overdraft) — CAPEX
• WACC = (Cost of Equity x Equity%) + (Cost of Debt x Debt%) *mostly relevant for listed companies. See point 4 above for unlisted companies
• Terminal value formula = (FCF Yr10 x (1+ terminal growth rate)) / (WACC — terminal growth rate)
• Present value formula = FCF / (1 + WACC) ^ YearsEnterprise value = PV of future cashflows + PV of the terminal value
• Equity Value = Enterprise value — Debt + Cash
• Share price = Equity value / number of issued shares

Here is an important qualification when it comes to valuation. Value is subjective, every valuation is biased, and the forecast will be wrong. The price is subject to negotiation; the value is subject to EGO.

Justin Spencer-Young