A business is worth what people are willing to pay for it. And what people are willing to pay often varies widely due to different opinions about the future, what the key drivers of value are in a given industry, the magnitude of potential synergy, and how quickly perceived synergy can be realized. What is ultimately paid reflects the relative bargaining position of the parties involved in the negotiation and their ability to remain detached from the process. The latter factor requires substantial discipline in controlling one's emotions. Thankfully, tools exist to assist in that regard. Alternative valuation methods and basic financial modeling help strip away some of the subjectivity inherent in determining the true or intrinsic value of a business.

Part III introduces a variety of valuation methods and discusses financial modeling techniques. The applicability of each valuation methodology varies by situation, with each subject to significant limitations. An average of estimates using different methodologies is more likely to provide a better estimate of firm value than any single approach. Moreover, there is little evidence that complex methods provide consistently more accurate estimates than relatively simple ones.

Chapter 7 provides a primer on constructing valuation cash flows, the discount rates necessary to convert projected cash flows to a present value, and commonly used discounted cash flow (DCF) methods. These include the zero growth, constant growth, and variable growth methods. How to value nonoperating assets also is discussed, as are the implications for valuation of changes in US tax laws in 2017. Alternatives to DCF techniques are discussed in Chapter 8, including relative valuation, asset-oriented and replacement-cost methods. Implicit in the DCF approach to valuation is that management has no flexibility once an investment decision has been made. In practice, management may decide to accelerate, delay, or abandon investments as new information becomes available. This decision-making flexibility may be reflected in the value of the target firm by adjusting discounted cash flows for the value of so-called real options.

Chapter 9 discusses how to build financial models in the context of mergers and acquisitions. Such models are very helpful in answering questions pertaining to valuation, financing, and deal structuring. (Deal-structuring considerations are discussed in detail in Chapters 11 and 12.) Such models may be particularly helpful in determining a range of values for a target firm reflecting different sets of assumptions. Moreover, such models are powerful tools during M&A negotiations, allowing the participants to evaluate rapidly the attractiveness of alternative proposals. (Chapter 14 discusses in detail how complex models are used in deal negotiations.) This chapter also addresses how to incorporate limitations on the tax deductibility of interest expense imposed by the Tax Cuts and Jobs Act of 2017. Finally, Chapter 10 addresses the challenges of valuing privately held firms, which represent the vast majority of firms involved in M&As, and how to adjust purchase prices for illiquidity and noncontrolling interests as well as for the value of control. This chapter also describes the process sometimes used to take private firms public and “early stage” investment in emerging businesses.