Basics of Valuation

Abstract

All companies deal with valuation from time to time. Capital budgeting, company and asset valuation, or value based management rely on valuation.

Two approaches are the foundation of valuation, discounted cash flow valuation and relative valuation. The first one is a bottom-up approach where the present value of an asset’s future cash flows is calculated, the second determines the value of an asset by comparing it to similar other assets.

While relative valuation is well applicable by common sense, DCF needs considerable understanding of the relevant input parameters. As DCF is a vital approach to valuation in life sciences and the basis of decision tree analysis and real options valuation, it is worthwhile to discuss in detail how the method is properly applied.