I’ve always had this idea that the way we value companies is missing something crucial. Why do we rely so heavily on market prices and shareholder decisions? It seems too simplistic, especially when a company’s true value often extends beyond just financial figures. As we move into times where social and environmental factors are becoming more important, I believe it’s time to rethink how we evaluate a company’s worth. Shouldn’t we be looking at a broader range of data to truly capture what makes a company valuable? In this post, we’ll explore traditional valuation methods, the importance of people, and new data points that could redefine how we assess company value.

Rethinking Traditional Valuation

Traditionally, companies are valued based on market perceptions and shareholder interests. This approach focuses mainly on financial metrics, which can overlook other important aspects of a company. As we start to recognise the importance of social and environmental factors, it’s clear that we need a more comprehensive view to truly understand a company’s worth. The European Union’s Corporate Sustainability Reporting Directive is a step in this direction, encouraging companies to disclose their impact on society and the environment. This kind of reporting can provide valuable insights that go beyond traditional financial data, helping us to better assess a company’s true value.

The Importance of People

More than ten years ago, while I was contemplating a career as a chartered accountant, I began to ponder what truly makes a company valuable. I theorized that it’s the people and how they are organized within a company that create value. Their intellect, manual labor, and interactions bring together bright new ideas that help a company thrive. No matter the investment, if the people working there lack great ideas, knowledge, and experience, along with a touch of business ingenuity, the company is likely to struggle and may even destroy its own value.

So why not consider the “people factor” when evaluating a business? Why not make it a core component of business value and bring it back to the center of the conversation? In fact, payroll is often the largest expense for a company, and it plays a crucial role in driving success.

If we consider the “people factor” alongside a company’s profitability, it provides a clearer picture of the company’s current value. Oh yes, you read me right—it doesn’t account for the future value of a company. Beyond the people factor, there are additional data points that can provide insights into a company’s future potential.

Beyond Financials: New Data Points

The future value of a company depends on how it will evolve. It requires foresight into market trends and the company’s own innovations. To truly capture this potential, we need to look beyond just the present and consider additional data points that can indicate future growth and resilience.

Innovation and R&D
The first aspect to consider is how much R&D is being performed. This is crucial for understanding how much is being invested in innovation. However, there’s a downside—some companies might label certain activities as innovation while others might not, leading to inconsistencies. Could this data be too flawed to rely on?

Replicability and Assets
The second aspect involves the time it takes for others to replicate a company’s methods, investments, and expertise. While this can be vague, the value of assets—potentially updated based on newer assets or knowledge—should be considered. As business models evolve, decisions about whether to own or lease assets can skew valuations. Accounting for these differences is complex but essential for understanding a company’s competitive edge.

Environmental and Social Impact
The third aspect is the environmental impact, which includes the customer environment (is there a natural or influenced demand for the products?), the biological environment (does the company have a positive impact or does it pollute?), and the social impact on its local market.
It’s worth pausing to reflect on what “local market” means. Ensuring that people who buy your product can afford it is vital. Currently, this is often achieved by producing at lower costs, but is it sustainable? Does it generate enough revenue in the local economy for people to meet all their needs? We should also question whether all products are truly necessary. For more on this, see my previous post Why do we want?. Ultimately, products that aren’t sustainable for the local market or environment should negatively impact a company’s value. Could we find a way to account for this?

Redefining Company Value

So, can we redefine what a company’s value is? I say yes! The market is flawed in evaluating both the current and future value of companies. We have more information available within companies than ever before, but the challenge lies in transparency. Audits, which are already conducted, could ensure that value is shared in a trustworthy manner. Most data points are already present in accounting records. Additional data might not be necessary for smaller companies, as their societal impact is usually limited with a short feedback loop. However, global companies, due to their larger footprint, have a broader understanding of their impact and bear a greater social responsibility worldwide. They are increasingly audited and required to report on their societal influence, reflecting both their extensive reach and the corresponding obligations.  

Integrating Environmental Accountability

Assessing environmental impact remains challenging. Should we negatively account for anything that isn’t organic? How do we evaluate the extraction of minerals or gas, or the impact of routes on fauna and flora? Defining when a cycle is out of balance and how a process negatively affects a company’s value requires careful consideration. Incorporating the “polluter pays” principle could help address these challenges by holding companies accountable for their environmental harm, ensuring that such impacts are reflected in their valuation.

This last question is increasingly relevant today. We could already take steps toward better accounting for a company’s value, making it more representative by gradually incorporating indicators such as carbon footprint, with a value assigned to each ton of CO2 emitted directly and indirectly (including product usage). This would be a great start to bring back more tangible value to the company, closer to the people and less virtual based on financials. It would also instill a sense of responsibility in the people within companies, nudging them to make decisions that are more aligned with sustainability and creating a more sustainable cycle.

Conclusion

In the end, the current way of valuing companies is flawed. By looking at more factors, like people, innovation, and environmental impact, we can create a more accurate and responsible way to value companies. What do you think? Are there other factors we should consider? I’d love to hear your thoughts at night-thoughts@poyer.org.