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Module 4 - Earnings and Market Approach Valuation
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Course
Financial Accounting (AE 111)
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University of San Agustin
Academic year: 2022/2023
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Module 4 - Earnings and Market Approach Valuation
Course: Financial Accounting (AE 111)
199 Documents
Students shared 199 documents in this course
University: University of San Agustin
Was this document helpful?
PrE 26 – VALUATION METHOD
MODULE 4
EARNINGS AND MARKET APPROACH VALUATION
Learning Objectives:
1. Discuss the common methods use under earnings approach
2. Illustrate how to compute the historical capitalizing earnings and discounting future earnings
3. Identify the methods use under market approach
4. Discuss the market value approaches
Topics:
1. Methods of Earnings Approach
2. Methods of Market Value approaches
Earnings Approach is another common method of valuation and is based on the
concept that the actual value of a business lies in the ability to produce revenue,
profit and eventually wealth in the future.
Two Common Methods of Earnings Approach
1. Capitalizing Past Earnings Approach – it determines an expected level
of cash flow for the company using a company’s record of past
earnings, normalizes them for unusual revenue or expenses and
multiplies the expected normalized cash flows by a capitalization
factor. Capitalization factor is a reflection of what rate of return a
reasonable purchaser would expect on the investment, as well as a
measure of the risk that the expected earnings will not be achieved.
The estimate here is found by taking the future earnings of the
company and dividing them by capitalization rate – income valuation
approach which shows the value of a company by analyzing the
annual rate of return, the current cash flow and the expected value of
the business.
Illustration. Cecilia Company has earned and had a cash flows of
about P500,000 every year. The same cash flow would continue for
the forseeable future as a prediction of company’s earnings. The
expenses for the business every year is about P100,000 only which
leads to P400,000 income every year. To figure out the value of the
business, an investor analyses other risk investment that have the
same kind of cash flows. The investor now recognizes a P4 Million
Treasury Bond that returns about 10% annually or P400,000.
Given the information above, the business value is also computed
as P4 Million (P400,000/10%). Both investments have the same
risks and rewards.
Source: C.A.Diquit,CPA,MBA and M.V. Lascano, H. C. Baron, A. T. L. Cachero., Valuation Concepts and
Methods, 2021 Edition, Philippines, 2021
