Going-concern value and liquidation value are two distinct methods of valuing companies, and both are used for different reasons by different types of investors. Going-concern value represents the monetary value that can reasonably be expected to be received from continuing business operations, and liquidation value represents the total sales value of all company-owned assets. Understanding the differences between these two, and the insight provided by each, can make you a more well-rounded investor or entrepreneur.
Put simply, going-concern value represents the potential future profits a business can generate. Investors analyze going-concern value when they believe a company has the potential to survive and grow in the future. The main factor to consider when calculating going-concern value is the most recent year's earnings data. Using past data to reveal recent trends, investors can set future income expectations.
Investors use liquidation value when they believe a company has no usefulness as a going concern. In this case, investors want to know how much money they can receive from selling off the company's assets, which consists of all sales proceeds less all selling expenses. Examples of sellable assets include fully owned vehicles, fully owned buildings, patents, inventory stockpiles and production equipment. Selling expenses include things such as listing real estate for sale, hosting equipment auctions and delivering remaining inventory to buyers.
An investor motivated solely by profit can compare the going-concern value of a business against its liquidation value to determine whether it is more profitable to continue to operate a business after buying it or sell it off for parts. For liquidation to be more profitable than continuing to operate a business, the margin between liquidation sales value and selling expenses must be higher than the going-concern value.
There is an ethical consideration to make in this decision, however. Liquidation almost always means large-scale layoffs; liquidating a perfectly healthy company and laying off workers simply because the liquidation value is a bit higher can have a negative social impact and can gain an investor a bad reputation in the labor market and among potential takeover targets.
Going-concern value can be useful to investors in deciding whether to invest in established enterprises. Venture capitalists analyzing new business ideas or start-ups have to rely to greater degree on business plans and their own experience when determining whether to take an investment risk. Investors analyzing established companies can use solid financial data to create more reliable going-concern estimates.
Company liquidation may be the only option for failing companies having difficulty finding a buyer. Liquidation can also be a good option for sole proprietors entering a new line of work or starting a new business, allowing them to recoup some of their previous investments before moving on.