SME valuation: Simplified methods vs. enterprise value models

In valuation practice, multiple valuations are often used for SMEs, particularly with Sales, EBITDA, EBIT and EBIT multiples. But can they replace the common DCF and Income approaches? The IDW says so:

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Practice for the valuation of SMEs

In practice, simplified pricing methods are regularly used to value SMEs. Multiple valuations, in particular using the common Sales, EBITDA, EBIT and P/E ratio multiples, are uncomplicated and can be prepared with reasonable effort. In addition, IDW S1 as amended in 2008 explicitly provides for valuation using simplified pricing methods as a plausibility check instrument when determining the objectified enterprise value.

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Can multiple valuations replace the standard DCF and Income approach?

In the course of clarifying the valuation of small and medium-sized enterprises (IDW Practice Note 1/2014), the IDW highlighted this issue and clarified that simplified valuation methods cannot replace a business valuation in accordance with IDW S1 (see point 60). Although its use as a plausibility check method was once again emphasized, there is no way around the application of cash flow or earnings-oriented discounting methods in the context of determining objectified business values.

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Important points on the use of multiple assessments

1. Simplicity and speed: Multiple valuations are popular in practice because they can be carried out quickly and easily. This is particularly advantageous for small and medium-sized enterprises (SMEs) that do not have the extensive data and resources required to carry out DCF or Income approaches.
2. Plausibility check: IDW S1 recognizes the usefulness of multiple valuations as a plausibility check tool. They can be used to check and confirm the results of more detailed valuation procedures. This helps to increase the validity of the final business valuation.
3. Limitations: Despite their usefulness for plausibility, multiple valuations cannot provide the in-depth analysis and accuracy achieved by using DCF or Income approaches. These methods take into account detailed future cash flows and discount them to their present value, which provides a more comprehensive assessment of a company's financial health and potential.

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Conclusion

In summary, it can be said that simplified valuation methods such as multiple valuations are valuable tools in valuation practice, particularly for checking the plausibility and verification of results. However, they cannot completely replace the more detailed and comprehensive DCF and Income approaches. For an objective and well-founded business valuation, there is no way around using these methods.

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