Methods for Assessing the Value of an Individual’s Work

Methods for Assessing the Value of an Individual’s Work

In this article, I will share insights and references derived from my experience in valuing businesses using the Discounted Cash Flow (DCF) method and extend these principles to evaluate the value of an individual’s work by examining their cash flow generation and personal assets.

I. The Relationship Between Financial Reporting Components of a Business and Personal Financial Statements

1. Overview of Financial Reporting Structures in a Business

Firstly, in the field of investment, a company is conceptualized as a comprehensive business model where one or more entities engage in activities that follow a specific process to generate revenue, incur expenses, and produce profit. These activities are explicitly represented in the company’s financial statements.

Income Statement Formula:

Revenue ? Operating?Expenses = Profit

Secondly, throughout its business operations, a company maintains a balance sheet that includes Total Assets consisting of cash and cash equivalents (such as blue-chip stocks, gold, savings accounts, etc.), current assets (such as inventory, accounts receivable, etc.), and long-term assets (such as real estate, machinery, intellectual property rights, and brand names). The assets on the Balance Sheet are primarily utilized to support business operations, aimed at generating revenue, incurring expenses, and achieving profitability.

In addition, the Balance Sheet features a section dedicated to Sources of Capital, which includes debt financing and available reserves (current reserves and accumulated funds from previous periods).

Balance Sheet Formula:

Total Assets = Cash & Cash Equivalents} + Current Assets (Inventory, Receivables, etc.) + Long-Term Assets (Real Estate, Vehicles, Machinery, Tools, Certifications, Brand Names, Patents, Copyrights, etc.)

Total?Sources?of?Capital=Debt?(Bank?Loans,?Partner?Loans,?etc.) +Equity (Stocks, Retained Earnings)

Finally, besides the Income Statement and Balance Sheet, the Cash Flow Statement from Operating Activities, Financing Activities, and Investing Activities provides a concrete view of the actual cash flows generated by the company’s activities. A company’s value is higher when it demonstrates a substantial and stable net cash flow, as business valuation methods primarily rely on the magnitude and stability of net cash flow.

Cash Flow Statement (Indirect Method) Formulas:

• Cash Flow from Operating Activities (CFO): Profit + Depreciation - Interest Expenses + Changes in Receivables/Payables Related to Operating Activities (Changes in Working Capital)
• Cash Flow from Investing Activities (CFI): Cash Received from Investing Activities (Dividends, Asset Sales) - Cash Spent on Investing Activities (Dividends Paid, Asset Purchases)
• Cash Flow from Financing Activities (CFF): Cash Received from Financing Activities (Bank Loans, Issuance of New Shares) - Cash Spent on Financing Activities (Debt Repayment, Share Buybacks)

Thus, a company’s value is directly proportional to its profit, the scale of its assets, the size of its capital (debt and equity), cash inflows from investment and financing activities (dividends, asset sales, interest income), and inversely proportional to operating expenses, investment expenses, and financing costs.

This summary provides a concise overview of the financial components of a business and the methods for valuing a company using the Discounted Cash Flow (DCF) approach. Building on this summary, I will present a theoretical framework for valuing an individual’s work by analyzing the cash flows they generate.

2. Classification of Financial Reporting Structures for Individuals

An individual, upon reaching adulthood, has the potential to generate personal cash flow through their employment. Fundamentally, an individual’s job can be likened to a business model, where the job description serves as the business model and this personal enterprise consists of three main financial statements:

a) Income Statement:

• Personal Income (e.g., Salary, Savings Interest, Investment Returns) – Living Expenses = Profit from Earning Activities

b) Balance Sheet:

• Total Assets = Cash/Savings/Gold… + Current Assets (13th-Month Salary, Pension for Retirement, Unemployment Benefits…) + Long-Term Assets (Real Estate, Vehicles, Jewelry, Collections, Certifications)
• Total Sources of Capital = Loans (Banks, Family, Friends…) + Own Capital (Investment Costs to Secure Current Job)

c) Cash Flow Statement:

• Cash Flow from Main Job: Profit from Job + Depreciation of Assets + Changes in Money for Earning Activities
• Cash Flow from Investment Activities: Profits/Losses from Buying/Selling Real Estate, Stocks, Vehicles…
• Cash Flow from Financing Activities: Profits/Losses from Borrowing/Repaying Loans + Job Changes

3. Valuation Framework for Assessing the Value of an Individual’s Work

The value of an individual’s earning activities (conceptually equivalent to “wealth”) is primarily proportional to the amount of money remaining each month after covering living expenses and the effective use of this money to create income-generating assets (achieving positive cash flow through asset acquisition, debt management, and seeking higher-paying opportunities).

Moreover, the value of an individual’s earning activities also depends on the stability of their cash flow. For the same level of income, individuals who can maintain stable profits, manage costs efficiently, and effectively handle positive cash flow will be valued higher compared to those who do not manage their costs and cash flow effectively.

In a typical professional context, a job at a company with a regular salary (often a full-time, permanent position) offers the highest valuation when an individual optimizes their income (career advancement) and manages expenses and reinvests profits effectively.

However, in this standard job model, most individuals do not create inventory or experience sudden increases in working capital or future income projections.

Examples of individuals whose job activities generate inventory, which can be converted into future income, include entrepreneurs, business owners, artists, and craftsmen. These individuals need to develop additional strategies, specifically focusing on the liquidity of the inventory created by their work.

4. Discount Rate for Predicting Future Cash Flows

As previously outlined, the creation and forecasting of a cash flow statement provide the foundation for valuing an individual’s work. However, this forecast may not reflect the full value if two individuals have similar cash flow statements but differing job characteristics and cash flow management strategies. Therefore, to accurately assess the value of each individual’s work, we must consider a discount rate that reflects risk factors across the entire earning process: earning money, managing finances, and reinvesting cash flow. For simplicity, we use a default discount factor of 1. For simplicity, we use a default discount factor of 1 and then adjust it along considering the risks of the following angles.

a. Earning Ability and Confidence Level (30% - 35% of the Discount Factor):

• Number of Earning Skills: The level of proficiency, market demand, and relevance of these skills. A greater number of specialized, in-demand skills results in a lower discount factor.
• Opportunities for Earning: More earning opportunities lead to a lower discount factor.
• Stability of Earning Ability: Short-term, freelance work results in a higher discount factor, while long-term, stable employment results in a lower discount factor.
• Historical Performance: If an individual has historically exceeded earnings expectations, the discount factor should be increased.

b. Money Management Process (50% of the Discount Factor):

• If expenses increase significantly relative to earnings, increase the discount factor above 1.
• If expenses remain stable while earnings increase, the discount factor can be decreased below 1.

c. Reinvestment and Savings Strategy (15% - 20% of the Discount Factor):

• Conservative Saving and Reinvestment Strategies (e.g., low-risk financial products): Lower the discount factor below 1.
• High-Risk Investment Strategies (e.g., speculative ventures, investments outside personal expertise): Increase the discount factor above 1.

I welcome further discussion and feedback from all to refine this method for evaluating the value of an individual’s work.

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