Valuation Techniques: Discounted Cash Flow, Earnings Quality, Measures of Value Added, and Real Options

CHAPTER 13

CHOOSING THE RIGHT VALUATION APPROACHa

Robert Parrino, CFA

Before beginning any analysis, the analyst should define the claim and level of value, the valuation date, and the purpose/definition of value. In essence, those “definitions” help the analyst choose among the many valuation methodologies available. But even with the wide range of tools that are available, the quality of any value estimate ultimately depends on how well the analyst understands the firm and its strategy, its competitive position, and its future prospects.

In this chapter, I will focus on business valuation techniques. In the course of this discussion, I will present the concepts underlying a number of valuation methods. Although many people are familiar with these methods, it is still worthwhile to systematically examine and discuss the concepts that underlie these approaches, their proper applications, and the pros and cons associated with each. Ultimately, I hope to provide a better sense of how these different methods fit together and the circumstances under which one method might be preferable to another.