The purpose of the valuation is to assist the buyer to establish a range of values for the enterprise to be acquired, taking into consideration the relative merits of the methodologies used, the bidder's business plan, long-term vision for the business and the cost of capital. There is no one correct or precise valuation, as valuation is somewhat subjective and depends on a number of variables and the amount and quality of information available.

All bidders for state-owned enterprises will need to ask the question, "what is the value of the business that I want to acquire?" There can be no scientific answer to this question. Value is simply what the buyer is willing to pay for an asset or business as a going concern.

However, there are several issues that must be considered in the valuation process:

* Opportunity Cost
* Risk
* Cost of capital
* Reliability of future cash flows
* Competition

Typically, the buyer will obtain detailed information from the Information Memorandum (IM) provided by the transaction advisors or government department. Thereafter, the bidder will conduct a due diligence and prepare a detailed business plan to determine the future course of the business. This business plan will identify future cash flows to be earned by the business.


There is no one methodology that can give a firm valuation of a business. The bidder should utilize several methodologies and thus develop a range of values. Frequently, this range is quite large. Based on the nature of the business and related variables, the bidder should focus on the valuation(s) best suited to the existing circumstances.

1. Discounted Cash Flow (Fundamental Valuation)

The present value of any asset, whether real or financial, is the discounted stream of future cash flows that it is expected to provide. To estimate the value of the asset, the following information must be known:

a) The size of the cash flow stream
b) The timing of the cash flow stream
c) The required rate of return (RRR) or discount rate to apply to each periodic cash flow.

It is not necessary to delve into the mathematics of the calculation of the DCF. The DCF can be easily calculated from the spreadsheet analysis of your business plan, which should include a detailed cash flow forecast. There is a standard formula in your spreadsheet program. (In Microsoft Excel, go to 'Help" and look up NPV for an explanation of the formula.)


a) The calculation depends on future cash flows, which may be difficult to predict in a business which will undergo significant change
b) The selection of the RRR or opportunity cost of capital is a subjective measure

2. Earnings Multiple

This approach uses information from past sales of similar companies (if known) or the on-going sale of shares in such companies. For example, if the shares of a similar listed company trade at 4 times earnings, that could be a proxy of the valuation of the target company.

There are many drawbacks to this approach:

a) Most SOE's tend to be hybrid firms, so finding direct comparables is difficult
b) Few SOE's are listed, and sales information on unlisted companies is scarce, as it is not usually reported in the public media.
c) Comparable sales in other countries, if available, may not be appropriate for the SA market.

A useful resource is, a website which has stock market information on 65 countries, including South Africa. The site also provides links to information about unlisted companies.

Other multiples include:

Price / Sales Ratio
Price / Book Ratio

3. Book Value

Book value is the net asset value of an enterprise based on the accounts ("books") of the company. It is simply the value arrived at by subtracting the company's liabilities from its assets. This is typically not a useful measure of valuation of a going concern, but can be useful if only the assets are being bought.


The most significant drawback to this value is that is based on historical cost of assets. These assets are then depreciated over their useful lives, but depreciation is really a non-cash charge which approximates the usage of the asset. An asset may have a long useful life after its book value is zero. Some assets (land and buildings) may actually increase in value.

Book value says nothing about the quality of the assets nor their ability to generate future income.

4. Sunk Cost

This is really not a valuation as such, but it a quantum of public expenditure that government sits with, and may wish to recover. Frequently, it bears no relation to any of the other valuation results. This is in fact a 'political' valuation, but it is possibly useful as an indicator of government's expectation of sale results.

Note: This is meant to be an indicative list only, and only touches on the major methods. Preferably, a business valuation should be undertaken by experts who have experience. If this is not affordable, use the above list as a guideline and beginning point and consult widely. Ask questions to assure that you understand the business and any associated risks. Remember that management will not want to disclose problems and bad news. Caveat emptor: buyer beware!

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