Valuation analysis is used to evaluate the potential merits of an investment or to objectively assess the value of a business or asset. Valuation analysis is one of the core duties of a fundamental investor, as valuations (along with cash flows) are typically the most important drivers of asset prices over the long term.

Valuation analysis should answer the simple yet vital question: what is something worth? The analysis is then based on either current data or projections of the future.

In this section, we'll consider how companies can value any projects they're considering to determine whether they are worth undertaking. (For related reading, see 5 Crazy Corporate Valuations That Proved Too Low and Valuing Private Companies.)

For the purposes of this lesson, projects can be divided into two categories:

1. Expansion projects are projects companies invest in to expand the business's earnings.

2. Replacement projects are projects companies invest in to replace old assets and maintain efficiencies.

Determining a Project's Cash Flows
When beginning capital-budgeting analysis, it is important to determine the cash flows of a project. These cash flows can be segmented as follows:

1. Initial Investment Outlay
These are the costs that are needed to start the project, such as new equipment, installation, etc.

2. Operating Cash Flow over a Project's Life
This is the additional cash flow a new project generates.

3. Terminal-Year Cash Flow
This is the final cash flow, both the inflows and outflows at the end of the project's life, such as potential salvage value at the end of a machine's life.



Scenario / What-If Analysis

Related Articles
  1. Personal Finance

    10 Ways to Improve Cash Flow in Construction

    Improving cash flow in construction requires some sector-specific strategies.
  2. Managing Wealth

    What's a Hurdle Rate?

    Hurdle rate has two meanings. In the business world, a business typically makes a decision on a capital project based on the net present value approach. To determine the net present value, the ...
  3. Personal Finance

    Project Manager: Job Description & Average Salary

    Discover more about the specific tasks that project managers are responsible for and the average salary that can be expected in such a position.
  4. Small Business

    What Exactly Do Project Managers Do?

    While supervision is one important part of the job, a lot more goes into project management than just watching everyone work.
  5. Investing

    The Essentials Of Corporate Cash Flow

    Tune out the accounting noise and see whether a company is generating the stuff it needs to sustain itself.
  6. Investing

    Analyze Cash Flow The Easy Way

    Find out how to analyze the way a company spends its money to determine whether there will be any money left for investors.
  7. Financial Advisor

    Understanding Net Present Value

    Learn how this value is used to determine the worth of a project.
  8. Investing

    An Introduction To Capital Budgeting

    We look at three widely used valuation methods and figure out how companies justify spending.
Frequently Asked Questions
  1. I'm about to retire. If I pay off my mortgage with after-tax money I have saved, I can save 6.5%. Should I do this?

    Only you and your financial advisor, family, accountant, etc. can answer the "should I?" question because there are many ...
  2. My wife and I both converted our Traditional IRAs to Roth IRAs over a decade ago and have invested the maximum allowed each year since. We're buying our first home soon. Do we both qualify for one-time, tax-free, $10,000 distributions?

    You and your spouse each qualify for a penalty-free distribution of up to $10,000 for the purchase, acquisition or construction ...
  3. Is a Thrift Savings Plan (TSP) a qualified retirement plan?

    Take advantage of the government's retirement plan for employees with the Thrift Savings Plan. As with a 401(k), contributions ...
  4. Who manages the assets in a Roth 401(k) account?

    Learn how to personally manage the assets in your Roth 401(k) plan and determine the best options available to help meet ...
Trading Center