What is an Income Approach to estimating enterprise value?

An Income Approach (also known as a Discounted Cash Flow Approach) to estimating enterprise value for the purposes of an ASC 820 valuation report is based on evaluating the enterprise’s current and future cash flows in the context of the risk necessary to capture them. In other words, these approaches are ways to model the future likelihood of income to inform the enterprise’s valuation. They may be used in conjunction with other methods from the Market Approach and the Asset Approach. Common Income Approaches include:

  • Gordon Growth Terminal Value—calculate the value of the asset based on an assumption of linear growth
  • Hybrid (“H”) Model Terminal Value—determine current value based on an assumption of steady rates of change leading to an eventual plateau
  • Multi-Year Exit-based model—calculate the value of the asset today based on an assumption of an exit at the end of several years
  • Single-Year Exit-based model—calculate the value based on an assumption of a near-term sale
  • Real Option Pricing—take into account the possibilities available to management at the company being valued, as well as the cost of taking advantage of them
  • Probability-Weighted Expected Return Method (“PWERM”)—use the various exit scenarios and their likelihood to determine current fair value

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