This guide explains what football field charts are and the role that football field valuation plays in the valuation of a privately held business. Entrepreneurs, M&A professionals, and business consultants need to understand what a football field chart is. Here are some key takeaways about football field valuation:
A football field chart is a chart used in business valuation that shows us what a business is worth from a range of different perspectives. The purpose of a football field valuation is to compare and contrast different price ranges resulting from different approaches to the valuation. Different valuation methods look at a business from different perspectives. When analyzing a business we want to account for these different perspectives to avoid as many biases as possible.
At the end of the day, our valuation of the business will be used for real world decision making. When we’re valuing a business, we need to remember that someone will choose to move forward with or to pass on an M&A deal as a result of the value we assign to the business or asset.
This guide will look at the rationale behind different valuation approaches and aims to give you more clarity on how business valuation comes together into something that can be used to make a decision.
Here is an example of a football field chart, showing valuation ranges from discounted cash flow (DCF) modeling, comparable company analysis and precedent transaction analysis:
Above, we can see that this chart has actually given us a range of ranges. Remember, the goal in business valuation isn’t to come up with an exact number, it’s to come up with this range of prices that might make sense to pay for a business (or asset). With this information, we can account for different perspectives and make more meaningful decisions as a result.
Now that we understand how a football field valuation works and the various valuation methods that can be used to make up a football field chart, we’ll move on to look at the rationale behind these various methods of valuation.
Football field valuations are only useful if they allow us to compare values from a range of different perspectives. Ideally, we would want to account for as many valuation methods as are meaningful to the business or asset we’re trying to value.
The four most common methods of valuing a privately held business are discounted cash flow (DCF) modeling, comparable company analysis, the precedent transactions method, and an asset valuation. Here, we’ll look at the rationale behind these different valuation methods so we can understand the lens that they are attempting to value a business through.
In the above infographic, we can see that we’re looking at a valuation of a business from three different perspectives. We’re looking at the business from an income standpoint, a market standpoint, and the standpoint of the value of the net assets of the business. Here, we’ll break down each valuation method and explain the rationale behind valuing a business in these ways.
First, we’ll look at the discounted cash flow (DCF) method. This is a form of intrinsic valuation. Here, we’re looking at the business from the perspective that it is an asset that produces cash flows and will continue to produce those cash flows into the future. In other words, we’re attempting to assign a value to the business based on what those future expected cash flows would be worth to us. With the discounted cash flow method, we’re looking at the value of those future expected cash flows and we’re discounting them back in time to their net present value (NPV). The NPV shows us what it would be worth paying today to receive those cash flows in the future. In order to do a DCF valuation correctly, we need to use the right cash flows, and we need to discount them back in time at the correct discount rate. A DCF valuation will typically give us the widest value range for a business on the football field. DCF valuations also tend to be on the higher side, rather than the lower side. To learn more about DCF valuation, we recommend our guide: Discounted Cash Flow (DCF) Valuation.
Second, we’ll look at comparable company analysis. This is a form of relative valuation. It’s important to include some forms of relative valuation in a football field chart (if this is reasonable) because it gives us a different perspective than intrinsic valuation alone. Comparable company analysis attempts to assign value to the business based on what similar publicly traded companies are trading at above or below earnings. The rationale is that in an open market, shares of that company trade at a multiple (either above or below earnings), and therefore the market has valued the business that way—so the comparable company can justify that price as well. Obviously, it’s important to make sure that the two businesses are as similar as possible. It doesn’t make sense to do a comparable company analysis if the two businesses are not comparable. In order to use this method we also need to factor in a liquidity discount for the business we are valuing (assuming it’s privately held) to take into account the fact that the comparable business’ shares trade in the secondary market. The thinking here is that investors prefer higher liquidity and it’s much easier to sell shares of stock in a publicly traded company than it is to sell an ownership stake in a privately held company. To account for this, the liquidity discount lowers the valuation price respectively. To learn more about this valuation method, we recommend our guide: Comparable Company Analysis.
Third, we'll look at the precedent transactions method. This is another form of relative valuation, but is different than comparable company analysis. Whereas comparable company analysis looks at stock market trading data from publicly traded businesses to justify a valuation, the precedent transactions method looks at data from past M&A deals. With comparable company analysis, valuations are often done by looking at price to earnings. Here we see what similar publicly traded businesses are trading for above earnings. With the precedent transactions method, we look at past completed M&A deals and justify a valuation based on what other acquiring businesses have paid to buy similar businesses in the recent past. To learn more about this valuation method, we recommend our guide: Precedent Transactions Analysis.
Finally, we’ll look at the asset valuation method. This method attempts to value the business based on the assets it owns. Asset valuations are based on the logic that a business is valuable based on what it cost to build it, the replacement costs of the assets, or the liquidation value of the company. To value a business with the asset valuation method, we look at the total tangible assets of the business and subtract any debt the business has. This gives us the net tangible assets of the business. Net tangible assets are what we think the value of the assets that can be sold is. It should be noted that the asset valuation method doesn’t take into account cash flows, market share, or profitability. Normally, the asset valuation method will give you the lowest valuation for a business on the football field valuation chart. To learn more about this valuation method, we recommend our guide: Private Company Asset Valuation.