The "IT Proposition" of Valuation Business Valuation Team

The "IT Proposition" of Valuation

10 October 2022 | Published in Business Valuation Methods. Read 2183 times.

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One of the most critical sentences in company valuation, yet one of the least known, is the "IT Proposition of Valuation". What does the "IT proposition" mean, and how does it affect company valuation?

Prof. Damodaran from New York University formulated the IT proposition. It was framed due to different theories claiming that factors affect a company's value in a certain way. For example - control of a company, synergy of two companies, or corporate responsibility.

The Value of Control

The theories claim that controlling the company has value. What does it mean? Suppose a company is worth 100 USD. There, 60% of the company's shares should be worth 60 USD, and 10% of the company's shares should be worth 10 USD.

However - since 60% of the company's shares promise control over the company, theoretically, the value of 60% of the company's shares should be six times higher than 10%.

According to the IT proposition, it is not certain. Why?

You can read more about the control premium in two of our blog posts:

What is Discount for Lack of Control (DLOC)?

Control Premiums and Takeover Valuation: Here’s What You Should Know

Synergy

Synergy is the cooperation of two or more substances to produce a combined result more significant than the sum of their individual effects.

The theory of value arising from synergy says that if there is synergy between two companies, it is possible to combine the two companies to increase the value. For example - if the value of company A is 100 USD and the value of company B - 50 USD, then the companies can be merged to produce a company worth 175 USD.

According to the IT proposition, it is not certain. Why?

you can read more about synergy value in the following blog post:

Synergistic Value - what is it?

Environmental, Social, and Governance (ESG)

The theory says that companies with a higher awareness of corporate responsibility will have a higher value.

According to the IT law it is not certain. why?

The IT Proposition

To understand the above three "WHYS", you need to understand what the IT proposition is:

If it does not affect the cash flows and it does not affect the risk, it cannot affect the value.

In other words - control, synergy, and ESG alone do not create value. Only if each of them creates value will it be valuable.

Conclusion

In this article, we discussed the "IT proposition of Valuation". Wonder how can you validate the "IT"? In that case, you can try our intuitive ai based business valuation software or our business valuation calculator, or you can contact us for free advice or schedule a demo.

Last modified on Friday, 14 October 2022 06:12