Illustration for this article. The examples and figures are hypothetical.
A company reports operating profit of THB 10 million, yet after tax and investment only THB 6 million may remain for its capital providers. If it also develops software through research, should we add the value of its IP on top? I want to start there because reading financial statements and valuing a business have to connect before we apply a multiple.
The point here is to understand what each reported number recognizes, then trace the cash and investment obligations in full. Profit, book value, and business value answer different questions. If an expense is reclassified as investment for analysis, the related items must move together. Otherwise the adjustment can make it look as though cash has appeared.
What the author's companion website says about the book
This article refers to the companion page for The Little Book of Valuation by Aswath Damodaran on the NYU Stern website. This is not a reading or summary of the full book. The page starts with value estimated from business fundamentals and value inferred from comparable businesses. Its basic tools include the time value of money, accounting, and statistics, then connect cash flow, growth, discount rates, and terminal value. It also points to adjustments for a company's stage of life and industry, including businesses that rely on intangible assets [book companion page]
The question I take further is this: when spending creates benefits over several years, a reclassification for analysis may change profit, investment, and the capital base used to measure returns. The whole adjustment must be consistent; raising profit alone is misleading [discussion of businesses with intangible assets]
What follows is my explanation and a hypothetical case created for this website. It separates accounting requirements from analytical adjustments; it is not a chapter-by-chapter account of the book.
Financial statements and business valuation serve different purposes
Financial statements describe resources, obligations, performance, and cash flows under the applicable recognition and measurement rules. They include transactions as well as estimates, such as useful lives and expected credit losses. They are not a picture of the past free of forecasts. Valuation then asks how much cash the business can leave for its capital providers, when, and with what risk [Conceptual Framework for Financial Reporting]
| Measure | What it helps answer | What to check next |
|---|---|---|
| Accounting profit | What did recognized revenue and expenses produce this period? | Recognition terms, one-off items, estimates, and cash not yet received or paid |
| Book value | What are the reported assets or equity under the accounting rules? | Measurement bases, depreciation, impairment, and items that do not yet meet recognition criteria |
| Cash flow value | Under the assumptions, how much cash can the business generate for its capital providers? | Customer retention, costs, taxes, investment, working capital, and risk |
| Comparable-company value | What do the prices or multiples of comparable businesses suggest? | Whether revenue models, debt, profit, growth, and the underlying measures are truly comparable |
If internally created IP does not appear as a separate asset, we cannot conclude that it has no benefit or assign it a sale price. We need to examine rights, evidence of spending, recognition criteria, and expected benefits. Book equity therefore is not automatically an offer price for the shares.
Making a sale, recognizing revenue, and receiving cash happen at different times
Suppose work has been delivered and meets the revenue recognition criteria, but the customer has not paid. The amount may be in receivables, not the bank account. Conversely, an advance payment may still carry an outstanding service obligation. We must read the contract terms and progress on performance obligations, rather than using the cash receipt date alone to determine revenue [IFRS 15]
For a real business, I would follow the contract through delivery, acceptance, invoicing, and cash collected after the reporting date, then compare that with costs due before collection. If revenue grows but receivables grow faster for a sustained period, I would check aging, disputes, and credit terms before calling that growth cash-generating. Reconciliation between profit and operating cash flow exposes accruals and noncash items [IAS 7]
Research spending and development costs must first meet the accounting criteria
Under IAS 38, spending in the research phase is expensed. Development costs may be recognized as an asset only when all criteria can be demonstrated, including technical feasibility; intent and ability to complete and use or sell it; probable future economic benefits; sufficient resources; and reliable measurement of attributable costs. Calling a project “AI” or having source code does not settle those tests [IAS 38]
Once a business meets the criteria, it must apply the relevant accounting rules to the facts. It cannot choose expense or asset treatment to produce a desired profit. Spending previously recognized as an expense cannot later be added back to an asset's cost merely because the project succeeds. Amortization of a finite-life asset begins when it is available for use, not only when it first earns revenue [Thai Accounting Standard No. 38]
The discussion above covers IAS 38 and Thai Accounting Standard No. 38 within the relevant scope. A Thai business must also check whether it reports under TFRS for Publicly Accountable Entities or TFRS for NPAEs. The requirements of one framework should not automatically be applied to the other.
Reclassify R&D for analysis, then see where the cash went
Consider a new hypothetical company, unrelated to the businesses or A/B case in the previous article. All amounts in this example are THB millions. This period, revenue is 30; operating costs before R&D and depreciation are 12; research spending is 6; and equipment depreciation is 2. EBIT, or operating profit before interest and tax, is therefore 10. Assume none of the 6 in research spending meets the accounting criteria for an asset. Assume cash operating tax of 2, equipment investment of 3, and an increase of 1 in working capital. There is no interest or other item in this example.
FCFF is cash remaining for all capital providers before separating the effect of debt financing. Start with EBIT, subtract assumed cash operating tax, add back depreciation because it is not a cash payment this period, then subtract investment and the working capital needed. Here, 10 − 2 + 2 − 3 − 1 = THB 6 million. The 12 in operating costs is an accrual-basis amount. The 1 change in working capital connects the timing differences between receipts and payments and recognized revenue and expenses; the example does not assume that every baht of expense was already paid.
To study the classification effect, I assume R&D has a three-year analytical benefit life and begin amortizing that benefit in the following year. Research spending three, two, and one years earlier was 3, 6, and 3 million, giving analytical amortization this period of 1 + 2 + 1 = 4 million. The current period's 6 is not also amortized in the same period. Both the assumed life and timing are a thought experiment for analysis, not the IAS 38 rule for when amortization begins.
| Item | Accounting basis | Adjusted analytical basis |
|---|---|---|
| EBIT | 10 | 12 = 10 + research 6 − analytical amortization 4 |
| Less assumed cash operating tax | 2 | 2, unchanged |
| Add depreciation and amortization | 2 | 6 = equipment 2 + analytical amortization 4 |
| Less investment | 3 | 9 = equipment 3 + current-period research 6 |
| Less increase in working capital | 1 | 1 |
| FCFF | 6 | 6 |
The extra THB 2 million in apparent profit is not new cash. Research spending has moved from expense to analytical investment, and the analytical amortization previously deducted must be added back. Reclassification may help us read the capital base and returns on investment, but it does not prove that research will deliver benefits over the assumed life.
An easy mistake is to multiply adjusted EBIT of 12 by one minus a 20% tax rate at once. That produces a tax deduction of 2.40, although the example still pays only 2, leaving FCFF of 5.60 rather than 6. If applying a 20% tax formula to adjusted EBIT, the 0.40 tax difference must be reconciled back to the right basis. Analytical reclassification does not itself change cash tax paid or the legal right to deduct spending.
For a real business, we must therefore check the spending history, useful lives, project outcomes, and tax basis. If measuring return on invested capital, we also have to adjust the remaining capital base consistently. Raising profit alone while keeping the original asset base would inflate the apparent return.
Impairment does not always equal a fall in market price
IAS 36 tests whether an asset's carrying amount exceeds its recoverable amount. Recoverable amount is the higher of fair value less costs of disposal and value in use. The relevant asset or cash-generating unit must be identified at the appropriate level. A drop in market price can be an impairment indicator, but it does not mean every asset must be written down by the same percentage [IAS 36]
An impairment test also is not an offer price for all the shares: the asset scope, liabilities, cash flows, and assumptions differ. Some assets require annual testing even without an indicator: goodwill, intangible assets with indefinite useful lives, and intangible assets not yet available for use. The absence of bad news is not a reason to skip every check.
Before applying a multiple, check what leaves cash behind
I would start with revenue backed by contracts and work still to deliver, then trace labor costs including a replacement for the owner, technology costs, rework, taxes, and continuing investment. Next I would test collection dates, customer retention, and the useful lives of what has been built. Only then would I choose growth and discount-rate assumptions supported by reasons.
If projected cash flows already include the benefits of the software, customers, and team, do not add the value of the IP a second time. A separate valuation of rights may answer a question about buying an asset alone or licensing it, but its scope must be distinguished from buying the whole business. Values produced by different methods are not always amounts that can be added together.
For a starting point on earnings quality, see Read Earnings Quality Before Using the Numbers to Value a Company and see (the hypothetical software house and AI integration case) for a distinction among enterprise value, debt, excess cash, and equity value. This article offers a way to read the numbers before deciding what else to ask; it is not a substitute for the book or a valuation of a particular company.
Learning example. Concepts checked as of October 20, 2026. The hypothetical case does not represent any company's financial statements. Applying standards and tax rules to real work requires the facts, reporting framework, and applicable law.
