Using the DMDM to Arrive at a Value Estimate: Step Four

Step four: Comparing the Target Business to the transaction data.
Comparing the target business to the transaction data begins with attempting to answer questions such as the following:

Is the target business above or below the market average? That is, is the target business more or less desirable than the average business of its type?

By about how much is the target business above or below the average? That is, is the target business among the 25 percent most, or least, desirable businesses; is it among the 10 percent most, or least, desirable, etc.?

There are a number of ways, some quantitative and some only qualitative, in which the answers to these questions can be approached. For example:

As a result of the data-gathering process, the appraiser will have at least a qualitative opinion as to the desirability of the target business. This can lead to at a least a partial answer to the above questions.

Financial data for the target business, including both balance sheets and income/expense statements, can be analyzed by conventional financial analysis techniques, and can then be compared with composite financial data for the industry. This should make it possible to arrive at some degree of quantitative understanding of where the target business falls among its industry peers.

The profitability of the target business, expressed as a percentage of sales, that is, E/G, can be compared with the transaction data from the market, thus leading to a quantitative estimate of the desirability of the target business relative to the market.

Examples of all three of the above methods of comparing the target business with the market are included later in these tutorials.