The Capitalized Excess Earnings Method for Valuation

Pioneered by the IRS, this method is a great way to balance tangible and intangible worth. Let’s take a look at how it works.

Introducing the Capitalized Excess Earnings Method

The name sounds intimidating, but the CEE method is pretty easy to understand. Let’s break it down. ‘Excess earnings’ refers to the earning that a business brings in that is above a reasonable return on the capital invested into the business.

However, excess earnings are not the same as profit or ROI. The idea behind ROI is that investors will invest in a company if they get a reasonable return. Excess earnings are anything that an investor will receive beyond a reasonable return. Excess earnings matter because this means that the business is producing more profit than is required for it to attract investments.

The ‘capitalized’ part of the CEE method simply means that the excess earnings are capitalized and combined with the net tangible worth of a business to determine the true tangible and intangible worth of the business.

How the CEE Method Works

First, our online valuation tool will use financial statements and the information you provide to gauge the net worth of your company. This includes all kinds of assets. The worth of these assets is usually adjusted for liability and risk. The business earnings are then estimated based on what can be attributed to the net assets.

The reasonable returns, also known here as the earnings attributed to your net assets, are then compared to your company’s actual earning. This creates a value for the excess earnings your company brings in, which is then capitalized using the appropriate rate.

However, the capitalization rate is likely to be high since intangible values such as earnings are always considered riskier.  

When You Should Use the CEE Method

The CEE method is tricky, since it holds accountability for both the tangible and intangible assets of your business. If you overestimate the worth of your tangibles, your excess earnings will be minimal on paper. On the other hand, if your tangibles are undervalued the final value of your company may drop since the earnings are capitalized at a high rate.

The best time to use the CEE method is when you need to be sure that your business does indeed have high levels of excess earnings even after adjusting for reasonable returns. Our company valuation software can do this for you!

Our firm valuation platform has efficient algorithms and an intuitive interface to help you perform valuations on your business easily and quickly. Check it out here.