What is the market approach to business valuation?

The market approach asks what comparable businesses sold for, or what the market says about similar companies, and then applies that evidence to the business being valued. CBV Institute’s glossary defines it as using methods that compare the valuation subject to other assets, businesses or investments that have been sold or for which price and other information is available. This page covers two of the methods and the inputs. It gives no multiple and no price.

Two of the methods CBV Institute names

The glossary names four methods within the market approach: the guideline transaction, guideline public company, prior transaction and backsolve methods. It defines the guideline transaction method as applying multiples derived from one or more transactions of controlling interests in companies in the same or similar lines of business. It defines the guideline public company method as applying multiples derived from market prices of securities of publicly traded companies in the same or similar lines of business. It defines a multiple as a ratio of the value of a business or security to economic income or a non-financial metric.

What BDC says shapes the ratio

BDC says market-based methods calculate a valuation by applying a valuation multiple, which may be based on EBITDA, revenue or other metrics. It says the figure and the ratio vary greatly with many factors, including industry and location, market conditions, sales trends, multiples used by comparable businesses, size and maturity, stability of past and forecast earnings and cash flow, customer and supplier diversification, goodwill and intellectual property, dependence on owners and key employees, and workforce engagement. BDC’s glossary adds that rules of thumb are used as quick checks.

Questions to ask

Ask which comparable sales or companies were used and why they were chosen. BDC says the valuator determines a stand-alone fair market value to an arm’s-length party, meaning the value without any potential synergies or strategic considerations from the buyer. BDC also says professional valuators commonly use multiple valuation approaches to confirm a fair price, so ask how the market result was checked against the others. See what an EBITDA multiple means and the glossary entry on comparable transactions.