An evaluation of the market helps determine the actual worth of the asset. Generally, there is a difference between valuation and market price. This blog focuses on both concepts and their differences.
What is Valuation?
A quantitative way to determine what is the fair value of an asset is called valuation. It helps in ascertaining what is the current worth of an asset. It provides the fair value of an asset. It is considered an essential instrument in making decisions related to investment. It is a suitable tool for assessing the health of the company in financial terms. It helps in knowing what the actual money is worth of the asset. It helps in providing perceptions related to their economic values. It is considered to be a key element in managing business, financing, and investing.
It estimates the company’s equity and asset value, comprising tangible and intangible assets like real estate, IPR, Patents, and trademarks. It is done for both assets and liabilities. It is a perceived exercise, and the value of the asset or liability in question can also be affected during the valuation process.
This process involves observing the structure of capital, the management style, the asset’s value in the market, and the prospect of future earnings. Various approaches to determining value exist, depending on the purpose for which the valuation is being performed.
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Reasons for performing a valuation
Some of the main reasons for performing a valuation are-
- If a person is trying to sell the company or an asset then one should perceive first what is the value, before trying to deal with the buyer. The buyer also tries to get the value done to his satisfaction. Both parties need to be satisfied with what the value of the asset is before completing the deal.
- When one is trying to invest, he/she would like to know the value in order to have a detailed comprehension of what further steps to be taken. If one is doing a valuation of a company, they do so to see whether to opt for debt or equity for additional investment.
- An investor would also be keen to see a company’s value and prospects before investing in it in any form. Investors are attracted to companies that have documentation of their worth and generate cash flow.
- Valuation can be required due to any legal requirement or alteration in the company’s legal form. It is also done as part of tax requirements.
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Valuation methods
Some of the standard methods of valuation are:
1. Discount Cash Flow Method: –
This method basically deals with the company’s ability to generate cash flow. It provides the present value of the cash flow projection. It is a method that deals with the theoretical factors of the business itself rather than the factors depending upon the market. The analysis is done on the basis of future cash flows, the rate of discounts applicable, and the time period.
2. Book Value Method: –
It is one of the most basic methods, done using the company’s balance sheet. It can be unreliable in some instances. It takes into account the value of assets and liabilities, and the difference between them is considered the value of the business.
3. Comparable Method: –
It involves putting companies that are similar in size, nature, and industry in the same rank and then comparing them. This helps in knowing what the fair value of a company or asset can be. It is one of the easiest and fastest ways of getting to know what is the value of a company.
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What is Market Value?
It is the price that one may get in the market in exchange for selling the asset or company. It is generally based on the price that a buyer is willing to pay. It depicts the actual worth of the asset or company in the financial market. This is usually collaboratively established by the market participants. This, in turn, is used in the process of market capitalisation.
Various factors like potential growth, stock performance, per-share earnings, and book value impact market value, which is also called open market valuation. This value is generally higher than the actual price, and it is affected by demand, supply, and market conditions.
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Market Price vs. Valuation: Why the Difference Matters?
| Valuation | Market Price |
| Valuation refers to the actual worth of an asset | The market price is the amount that one pays against the asset when bought. |
| The valuation is the representation of the worth and usefulness of the asset. | The market price is measured in monetary terms. It is the amount of money given against the asset |
| The valuation depends upon quality, reputation, customer care services, benefits, and satisfaction | The market price is decided upon various factors like supply, demand, costs, competition, and other factors that affect external. |
| It is fixed and no one can question it as it is calculated through various methods | It is an opinionated basis concept, it depends upon what one feels to be priced for buying and selling. |
| It is based on prospects and looking through various fluctuations. | It is decided for the short term depending upon the current market situation |
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Factors Influencing Market value and Valuation
Various factors influence the market value and valuation.
- Earnings are one factor that influences the market Value and valuation. Short-term earnings can temporarily affect the value, and long-term earnings can help boost the price and valuation.
- Market value are affected by various economic factors, rates of interest, and geographical and political factors, but these don’t affect the company’s valuation.
- There is a possibility that all the information related to the company is not available publicly, thus there can be differences in ascertaining the market value and valuation.
- Some investors keep on purchasing and selling for investment purposes, which can affect the market value more than the valuation.
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Conclusion
Market price and valuation are two different concepts that, in turn, form an essential part of business valuation. Valuation is the worth of an asset or company, and market price is what someone is paying against the asset or company. Various methods, like the discount cash flow method, book value method, and comparable value method, are used to value a company. One should understand the difference between price and value to make informed decisions about the business.
Frequently Asked Questions
Q1. What is Valuation?
Ans1. A quantitative way to determine what is the fair value of an asset is called valuation. It helps in ascertaining what is the current worth of an asset. It provides the fair value of an asset.
Q2. What are the methods for valuation?
Ans2. Some of the common methods of valuation are the Discount Cash Flow Method, Book Value Method, and Comparable Method.
Q3.What is the market price?
Ans3.It is the price that one may get in the market in exchange for selling the asset or the company. It is generally based on the price that a buyer is willing to pay. It depicts what is the actual worth of the asset or company in the financial market.
Q4. How market price and valuation are different?
Ans4.Valuation means what is the actual worth of the asset whereas market price is the amount that one pays against the asset when bought. The market price is measured in monetary terms and the valuation is the representation of the worth and usefulness of the asset
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