Market Approach

The market approach, also referred to as the “comparables” or the “relative valuation” approach, assesses the market value of an asset relative to, or compared to, the observed market values of similar (ideally identical) assets for which market information is available. It is based on the “law of one price”—the fundamental principle of economics that identical assets must sell for the same price because any price differences would be arbitraged away by market participants.

The asset being valued is usually not identical to the assets whose market values can be observed, and the market approach therefore relies on the more general view that similar, or comparable, assets should trade for similar prices provided appropriate adjustments can be made reliably. The approach, therefore, relies critically on the similarity, or comparability, of the assets being valued and the ability to make any necessary adjustments.

Two of the most common techniques used to estimate market value under the market approach include (i) the comparable sales approach involving transactions for other companies or their shares, and (ii) the prior transactions approach comparing prior transactions for the subject asset. It is important that the observed values are from arm’s-length transactions between unrelated parties.

After comparable transactions are identified, they are then often used to derive valuation multiples that are then applied to value the subject asset.

Market valuation techniques lead to a common expression of market value based on market-derived measures:

• Under the sales comparison approach, the market value of a business or an asset is compared to other businesses or assets with similar characteristics that have been sold recently or trade publicly.
• Under the prior transaction approach, the market value of a business or asset is compared to prior transactions for the company or asset under scrutiny.