If you have been a follower of the reality show Shark Tank, then the word “valuation” is not new to you. On the contrary, it is a term that is commonly used throughout the show. As entrepreneurs pitch the self-made millionaires and billionaires for venture capital, valuation comes up time and again.
Business valuations refer to the monetary value of a company. On Shark Tank, entrepreneurs and the Sharks including Steve Baxter, Janine Allis, Andrew Banks, Naomi Simson and Glen Richards among others, typically have different ideas about the value of a company. What influences of a company? How do the Sharks determine what businesses are worth? Read on to find out more about how Sharks arrive at their business valuations.
It is the entrepreneur’s job to impress the Sharks when they have a flow, and one important way for them to do that is to convince the venture capitalists that their companies are worth the investment. Typically, a business owner will give the Sharks their own valuations albeit indirectly. For instance, an entrepreneur who says “Sharks, I am offering 20% of my company for $100,000” estimates his company’s value at $500,000. Similarly, offering 10% equity for $65,000 would mean that you value your company at $650,000.
However, most of the time Sharks counter valuation given by the entrepreneur by doing come quick business valuations of their own using these four methods.
One way these smart investors come up with the value of a company is to compare its valuation to others in the same industry. If you own a small business in the clothing retail industry, for instance, they can compare your value with that of enterprises in the same niche with similar earnings to arrive at a valuation.
In some cases, Sharks will use the price/sales ratio, also known as “the multiple”, to come up with a price tag for businesses. Take this example. If a business’s multiple is .5 and its sales amount to $200,000, then the value of the firm under this valuation would be $400,000. That’s because the multiple shows that that the sales of the company is equivalent to half of its value.
Discounted Cash Flow and Risk-Adjusted Value
Discounted cash flow basically takes two major points into consideration: the riskier an investment, the smaller the amount investors will stake and the higher the rate of return on expected earnings, the lower that rate at present. Sharks will pay less for a company with low current earnings and high forecasted ones compared to one with strong sales at the time of the pitch. A company in the former case represents a riskier investment, and that lowers the value of a company to the Sharks.
These are just a few of the methods the Sharks use to value firms on Shark Tank. Of course, other factors also come into play when arriving at these valuations:
- For instance, does the company product offer a synergistic opportunity to the Shark?
- Are there intangible benefits to valuing the company at a particular price?
Sharks consider all these factors before arriving at a valuation for any company on the show.
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