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1. ARE THERE ANY EXCESS EARNINGS IN BUSINESS VALUATION CERTAINLY YES! Now you must be thinking that someone is joking, correct? Certainly, there is no such thing in business as excess earnings. As the saying tells us, the more the better. Don’t get confused although – in business valuation, as in many financial analysis areas, technical definitions build all the difference. Excess earnings – more than a pretty name No, the business you are valuing does not have excess earnings it could spare. Excess Earnings is the earnings which exceeds the fair come back from the assets (tangible) and is generally derived from company’s goodwill among customers or from its reputation. Excess earnings are planned by Excess Earnings method. The excess earnings though, may well be within its many constructive attributes. Thanks to US Treasury for excess earnings methods Excess Earnings method is a skill based valuation method which is used to find the value of intangible assets during business valuation which in turn depends on both tangible assets and intangible assets. This method has been used for decades in valuing private companies and was first described in the US Treasury memorandum No 34. The unusual idea was to value going concern companies that were more valuable than merely the assemblage of assets they had at their disposal. Business owners believed that their companies were worth keeping alive when they produced superior returns. FlowChart to compute excess earnings and total market value of a company So what’s in a name? To find out, you would need to study the details of the Excess Earning method. At the outset, you make a sensible assumption that a business that commits a certain amount of capital must generate returns sufficient to cover the costs of the assets in play. So if you observe the returns from operations, you could deduct an amount equal to the so-called capital charge. At a bare minimum, the business owners must justify sinking the capital into the company by making sure they get sufficient returns. Or else, they should consider investing their money elsewhere. So far, so good. What is more, the excess earnings can be used to calculate the value of business goodwill. That sometimes indefinable intangible business asset that points to a well run company putting a nice income into the pockets of beaming business owners. A hope comes true. Conclusion: Got business goodwill? Indeed, then Excess earnings tell all. Assessment of business goodwill is one of the biggest advantages of the capitalized excess earnings valuation method. A thought is that business goodwill captures the synergies available in a well run company. You can’t assign the superior returns to any particular business asset; it is the coordination of all of the then in a successful company that makes it possible to enjoy all that extra income. Capitalization of excess earnings is the standard practice to quantify this happy outcome. The classic way is to use the constant growth capitalization calculation to estimate business goodwill. The amount of the values of business assets and goodwill gives you the total business value.

2. See, it was significant getting to the bottom of the excess earnings name. There are many situations when you need to validate the value of business goodwill, and the Treasury method is a brilliant way to do it.