2014 National Association of Certified Valuators and Analysts (NACVA). All rights reserved South State Street, Suite 400, SLC, UT,

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2 DISCLAIMER All rights reserved. No part of this work covered by the copyrights herein may be reproduced or copied in any form or by any means graphically, electronically, or mechanically, including photocopying, audio/video recording, or information storage and retrieval of any kind without the express written permission of the Consultants Training Institute (CTI ), the National Association of Certified Valuators and Analysts (NACVA ), and the presenter. The information contained in this presentation is only intended for general purposes. It is designed to provide authoritative and accurate information about the subject covered. It is sold with the understanding that the copyright holder is not engaged in rendering legal, accounting, or other professional service or advice. If legal or other expert advice is required, the services of an appropriate professional person should be sought. The material may not be applicable or suitable for the reader s specific needs or circumstances. Readers/viewers may not use this information as a substitute for consultation with qualified professionals in the subject matter presented here. Although information contained in this publication has been carefully compiled from sources believed to be reliable, the accuracy of the information is not guaranteed. It is neither intended nor should it be construed as either legal, accounting, and/or tax advice, nor as an opinion provided by the Consultants Training Institute (CTI), the National Association of Certified Valuators and Analysts (NACVA), the Institute of Business Appraisers (IBA), the presenter, or the presenter s firm. The authors specifically disclaim any personal liability, loss, or risk incurred as a consequence of the use, either directly or indirectly, of any information or advice given in these materials. The instructor s opinion may not reflect those of the CTI, NACVA, its policies, other instructors, or materials. Each occurrence and the facts of each occurrence are different. Changes in facts and/or policy terms may result in conclusions different than those stated herein. It is not intended to reflect the opinions or positions of the authors and instructors in relation to any specific case, but, rather, to be illustrative for educational purposes. The user is cautioned that this course is not all inclusive. (NACVA). All rights reserved South State Street, Suite 400, SLC, UT, The Consultants' Training Institute (CTI) is registered with the National Association of State Boards of Accountancy (NASBA) as a sponsor of continuing professional education on the National Registry of CPE Sponsors. State boards of accountancy have final authority on the acceptance of individual courses for CPE credit. Complaints regarding registered sponsors may be submitted through its web site: learningmarket.org.

3 The Presentation will include periodic online Polling Questions/Codes to assess continuous participation and to determine the program s effectiveness. You MUST respond to all polling questions (live) or complete a quiz (recorded) in order to receive CPE credit. If you view the webinar with a Smartphone or Tablet you will NOT be able to answer polling questions that are required for obtaining CPE credit. If you are viewing this presentation as a recorded webinar it will not qualify for NASBA QAS CPE credit. You can however, obtain CPE credit per the instructions included with your recorded webinar purchase.

4 2014 Valuation Handbook Guide to Cost of Capital Roger Grabowski, FASA

5 Roger J. Grabowski, FASA, is a Managing Director at Duff & Phelps LLC. He was formerly Managing Director of the Standard & Poor s Corporate Value Consulting practice, a partner of PricewaterhouseCoopers LLP and one of its predecessor firms, Price Waterhouse (where he founded its U.S. Valuation Services practice and managed the real estate appraisal practice). He has directed valuations of businesses, interests in businesses, intellectual property, intangible assets, real property and machinery and equipment. Roger has testified in court as an expert witness on matters of solvency, the value of closely held businesses and business interests, valuation and amortization of intangible assets and other valuation issues. His testimony in U.S. District Court was referenced in the U.S. Supreme Court opinion decided in his client s favor in the landmark Newark Morning Ledger case. Roger is co-author with Shannon Pratt of Cost of Capital: Applications and Examples, 5th ed. forthcoming in April 2014 (John Wiley & Sons, 2014); co-author with Shannon Pratt of The Lawyer s Guide to Cost of Capital forthcoming (ABA, 2014); co-author with Shannon Pratt of Cost of Capital: Applications and Examples, 4th ed. and Cost of Capital in Litigation: Applications and Examples and has been the author of the annual Duff & Phelps Risk Premium Report. Roger teaches courses for the American Society of Appraisers including Cost of Capital, a course he developed.

6 Morningstar announced in late September, 2013, that it will no longer publish the Ibbotson SBBI Valuation Yearbook and other valuation publications and products. The SBBI Valuation Yearbook and other Ibbotson valuation products have been widely used and cited in valuation reports for nearly 15 years and are generally considered one of the essential tools needed in every practitioner s toolbox. Last year s 2013 SBBI Valuation Yearbook (with data through Dec. 31, 2012) is Morningstar s last SBBI Valuation Yearbook Morningstar will not be publishing a 2014 version (with data through Dec. 31, 2013). 6

7 SBBI Classic Edition - continuing Addition of size premia for CRSP standard marketcap-weighted deciles 1-10 only Supply-Side Equity Risk Premium Classic Edition is an analysis of the relative performance of various asset classes in the U.S. and does not provide extensive valuation data or methodology 7

8 SBBI Valuation Edition - discontinued Discontinued: Breakout of the 10 th decile into 10a and 10b or 10w, 10x, 10y, and 10z Industry Risk Premia for use in build-up method 8

9 Discontinued Cost of Capital Yearbook industry cost of capital info Individual company beta (OLS, Peer group, Ibbotson adjusted) and Fama-French factors International reports CCRC.com website 9

10 2014 Valuation Handbook Includes all of the critical year-end data that was previously available in the SBBI Valuation Yearbook Timed to provide users of SBBI valuation data with a source of data to complete year-end valuations without interruption. 10

11 Valuation Handbook will include two sets of valuation data: Data previously available in the SBBI Valuation Yearbook; and Data available in Duff & Phelps Risk Premium Report. 11

12 2014 Valuation Handbook includes all of the key variables in estimating the cost of capital previously published in the user-friendly SBBI Yearbook s back page, including: Yields Long-term (20-year) U.S. Treasury Coupon Bond Yield as of December 2013 Equity Risk Premium Long-horizon expected historical equity risk premium ( ) Long-horizon expected supply side equity risk premium ( ) 12

13 Size Premia CRSP Mid-Cap, Low-Cap, and Micro-Cap size premia CRSP Deciles 1 through 10 size premia Size premia for the breakdown of CRSP Decile 10 into 10a (and its subdeciles 10w and 10x) and 10b (and its subdeciles 10y and 10z) 13

14 Industry Risk Premium Industry risk premia (IRPs) previously found in Table 3-5 in the SBBI Valuation Yearbook. An IRP is used solely within the context of a build-up model. IRPs are a necessary cost of capital ingredient for those practitioners who like to use a build-up model in their valuation analysis (alone, or in addition to CAPM). 14

15 Industry Risk Premium expanded data Full-information beta by SIC code IRPs based on three estimates of ERP Historical ERP ( ) Supply-side ( ) Duff & Phelps recommended ERP (conditional as of January 1, 2014) 15

16 The same data sources used to produce the data in the former SBBI Valuation Yearbook are used to produce the new Valuation Handbook: The Center for Research in Security Prices (CRSP) market-cap-based NYSE/AMEX/NASDAQ indices; Standard & Poor s Research Insight database; and SBBI Series from Morningstar s EnCorr database. The same methodologies are used to produce the new Valuation Handbook. 16

17 Risk Premium Report Published annually since 1996 and, like the former SBBI Yearbook, provides data and methodology to assist financial professionals in estimating the cost of equity capital for a subject company using various build-up models and CAPM. Will no longer be published as a stand-alone publication. All of its data will be included in the Valuation Handbook. 17

18 Risk Premium Report includes Size premia based on 8 size measures For build-up method For CAPM Risk premia based on 3 measures of fundamental risk For build-up Relationship of size to other risk characteristics Returns for high-financial-risk companies 18

19 2014 Valuation Handbook is designed to complement and update analyses presented in the upcoming: Cost of Capital: Applications and Examples 5 th ed. by Shannon P. Pratt and Roger J. Grabowski Expected shipping date mid-april

20 Table of Contents: Introduction Ch. 1 Cost of Capital Defined Ch. 2 Methods for Estimating the Cost of Equity Capital Ch. 3 Basic Building Blocks of the Cost of Equity Capital Risk-free Rate & Equity Risk Premium Ch. 4 Basic Building Blocks of the Cost of Equity Capital Size Premium Ch. 5 Beta & Industry Risk Premia Ch. 6 Company-specific Risk Premium Ch. 7 The CRSP Decile Studies and the Risk Premium Report A Comparison Ch. 8 Using the CRSP Decile Size Premia Ch. 9 Using the Risk Premium Report CRSP Decile Size Premia Data Exhibits Risk Premium Report Data Exhibits 20

21 2014 Valuation Handbook expected shipping date March 17 Everyone who pre-orders will receive via Key Year-end Data as of 12/31/13 21

22 Yields Long-term (20-year) U.S. Treasury Coupon Bond Yield as of December 2013 Equity Risk Premium Long-horizon expected historical equity risk premium ( ) Long-horizon expected supply side equity risk premium ( ) Duff & Phelps recommended conditional ERP 22

23 Size Premia CRSP Mid-Cap, Low-Cap, and Micro-Cap size premia CRSP Deciles 1 through 10 size premia Size premia for the breakdown of CRSP Decile 10 into 10a (and its subdeciles 10w and 10x) and 10b (and its subdeciles 10y and 10z) 23

24 The following exhibit summarizes the valuation data and products that Morningstar is discontinuing. This data had been provided in two broad ways: (i) hardcover books and downloadable PDF reports; and (ii) on the Cost of Capital Resources website at CCRC.Morningstar.com (Note: the CCRC website was switched off on Dec. 31, 2013). 24

25 Hardcover Books and PDFs (discontinued) CCRC.Morningstar.com website (discontinued) Ibbotson SBBI Valuation Yearbook SBBI Valuation Essentials module* Individual Company Betas (in PDF format) Ibbotson Cost of Capital Yearbook International Cost of Capital Reports (in PDF format) Company Betas module (also sold seperately as PDF "tear" sheets) Industry Analysis module** (also sold seperately as PDF "tear" sheets) Int'l Cost of Capital module (also sold seperately as individual PDF reports) Int'l Cost of Capital Report Int'l Cost of Capital Perspective Report Int'l Equity Risk Premium Report * These reports included the most "essential" information from each of the SBBI Valuation Yearbook (in PDF format). ** These reports were individual industry analysis pages from the Ibbotson Cost of Capital Yearbook, over time (in PDF format). 25

26 Beta estimates Industry Individual company If you use published betas like Capital IQ or Value Line use same source for all companies International cost of capital Credit Suisse Global Investment Returns Sourcebook Dimson, Marsh & Staunton Damodaran website Campbell Harvey model 26

27 Updated Valuation Software All three applications (BVM Pro, ValuSource Pro and EBV) will be updated to incorporate both datasets from the Valuation Handbook. This update will be free for existing version 5, 6 and 7 customers. Valuation Handbook Purchase Options from NACVA & ValuSource: Book only ($225) Book + Web-based Data ($325) This database contains all the data elements as in the former SBBI Valuation Yearbook will be available to download into all the ValuSource valuation applications just like the SBBI Valuation Yearbook data was. Book + Web-based Data + Cost of Capital Analyzer ($519) In addition to the web-based data, ValuSource will have a web based Analyzer that creates Cost of Equity reports from the Risk Premium Report data. These reports can be automatically downloaded in to ValuSource valuation applications or exported to Excel. 27