Business Valuation – Preventing Type I /II and Type X Financial Losses

Statistics introduces the important notion of probabilistic error. There are two types of statistical errors when testing hypotheses: Type I (false positives) and Type II (false negatives). Corporate finance decisions depend upon accurate estimates of the future worth of particular investments. The ultimate aim is not to lose money by either overestimating returns and investing more than you receive back (Type I error), nor underestimating returns and not investing thereby foregoing a profitable business opportunity (Type II error). Type X errors occur when executives don’t properly diagnose the underlying business problem, don’t know which disciplinary theory is appropriate for / relevant to solve a problem, don’t understand the details of a particular methodology (and its limitations), or some combination of the preceding. Type X errors occur more often in business than executives care to admit, and their financial consequences can be catastrophic. While accounting is the language of business, value is the essence of business. Unlike accounting, however, there is no no generally accepted definition of business value across business functions. Avoid Type I, II and X financial errors when weighing business opportunities! Use the Integrated Value Process (IVP) framework to translate the essence of business (value) into the language of business (accounting). Read More