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Business Valuation and Federal Taxes: Procedure, Law and Perspective, 2nd Edition by Shannon P. Pratt, David Laro

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Chapter 15

The Income Approach

Summary of Approaches, Methods, and Procedures

In the hierarchy of widely used business valuation terminology, there are approaches, methods, and procedures. In business valuation, as in real estate appraisal, there are three generally recognized approaches: income, market (sales comparison), and asset-based (cost).

Within these approaches, there are methods. Within the income approach, the methods are discounting and capitalizing. Within the market approach, the primary methods are guideline public companyies and the guideline transaction (mergers and acquisitions) method (sales of entire companies). Also conventionally classified under the market approach are prior transactions, offers to buy, buy-sell agreements, and rules of thumb. Within the asset approach, the methods are the adjusted net asset method and the excess earnings method. (Some classify the excess earnings method as a “hybrid method” because it involves an analysis of both assets and income.)

Procedures are techniques used within these methods, such as the direct equity procedure versus the invested capital procedure. For example, in any of the three approaches, the procedure could be to value the common equity directly or to value all of the invested capital and then subtract the value of all the senior securities to arrive at the value of the common equity.

Although not every business appraiser follows these conventional classifications, this book will proceed with a chapter on ...

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