Understanding how we calcuate Enterprise Value
What do CoreValue's algorithms do? How do we know they work?
There is more than one algorithm powering CoreValue. Our calculations generate the CoreValue Rating; we calculate and plot the enterprise value, and generate a confidence range. Collectively, they take into account the assessment scores, driver and driver component weights, the primary multiplier (revenue or EBITDA) for the client’s industry and the current value of the that multiplier for the client, the client’s CoreValue Rating, the normalized trading range for the client’s industry, as well as the normalized ratio between revenue and EBITDA for the client’s industry.
Outside valuation experts have thoroughly vetted our algorithms, so we know they work. When compared with formal financial valuations, CoreValue enterprise value estimates are within 5-10%. But unlike financial valuations,CoreValue also measures the drivers of enterprise value. CoreValue uses dollars as the yardstick to help business owners understand, manage and monitor the intangible drivers behind their business, and thus its ability to perform, be sustained, and ultimately be transferred for the benefit of the owner, employees and community.
Research: the heart of CoreValue
The components we obtain through research (the industry multiplier, the normalized trading range for each industry and the normalized ratio between revenue and EBITDA for each industry) are typically obtained through multiple sources: Pratt’s Stats, BizComps, BizMiner, Business Reference Guide and First Research – all of which are national, notable and vetted resources commonly used by M&A, valuation and other like-‐professionals.
CoreValue takes into account all the different data sets when possible and doesn’t simply reply on one source. This also helps to ensure the largest possible samples.
Financial vs. Operational Valuations
There are two fundamental ways to value a business: an operational valuation and a financial valuation. The difference is purpose.
The purpose of a financial valuation is to provide a single number, which is based on how the number will be used. A financial valuation is essentially a snapshot of the company’s value at a point in time. It tends to be a reflection of past performance, and depending on the reason for the valuation (sale, divorce, partner buy-‐out, capital raise, etc.) outcomes may vary.
Financial valuations do a good job for a single purpose, but they are static, not actionable, and they do not answer the essential question: Why?
The purpose of an operational valuation is to understand why the business has value. By measuring the operational strengths and weaknesses of the company, we have a better understanding of how the business runs day-to-day to generate future revenue and profit.
CoreValue calculates the value of the company as an operating asset, or its enterprise value. We also project what it could be worth, and where there are weaknesses creating the gap between the present and potential Enterprise Value. Finally, CoreValue provides a clear 'roadmap' to recapturing the value gap, by assigning a specific value to each task or step generated from our analysis.
Why use Enterprise Value to measure a company?
Enterprise value is the yardstick – and driver – of success, not simply a financial measure used when thinking of exiting. Thus, it must always be available to the owner, CEO or other company stakeholders. Second, for enterprise value to be useful, it has to be actionable – meaning it needs to be measured in such a way that business advisors and their client owners can use it to make decisions and make the company stronger. The idea that it embodies an engine and consists of gears is a critical analogy, as it focuses the user to measure (and consequently manage and monitor) each gear. The 18 value driver framework was created for this exact purpose.
The point of the 18 value drivers is to quantify and bring actionable transparency to the fingertips of the owner or CEO and other stakeholders. To achieve that, they need numbers and measures – and the measure that matters is dollars. Dollars are connected to the objective – increasing enterprise value. Anything short of that is simply qualitative and would miss the mark. On purpose, CoreValue has used algorithms and process engineering approaches, methods and measures to make this work. Then we tested, and continue to test, our methodologies against valuation methodologies, against real live data, and against data provided by the finest data sets available. There is nothing ad hoc about what we do.