Introduction to Valuation Frameworks. Lecture #2

Transcription

1 Introduction to Valuation Frameworks Lecture #2

2 Approaches to Valuation Income-Based: Value equals the discounted present value of future cash flows Market-Based: Value equals the price on which buyers and sellers agree. Assumes law of one price and existence of comparable businesses Asset-Based: Value equals the sum of the value individual assets These approaches are most often used to value a business enterprise but conceptually applied to value almost all assets Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 2

3 Income Approaches Primarily discounted cash flow (DCF). Occasionally, capitalization of earnings. This course will only use DCF. Choices of which cash flow stream to use: Free Cash Flow (a.k.a. Unlevered Cash Flow) Cash Flow to Equity Both measures of cash flow are after operating expenses and taxes (or tax affected ) Free Cash Flow is available to all investors in the firm, both equity and debt holders Cash Flow to Equity is after debt-service payments or is residual cash flow Key inputs: Projections (most often, from management), WACC, long-term growth rate, Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 3

4 DISCOUNTED CASH FLOW Projected FYE Ended January 00, Year 1 Year 2 Year 3 Year 4 Year 5 Terminal Year EBITDA Less: D&A (7.0) (7.4) (7.7) (8.0) (7.1) (6.0) EBIT Less: 40% (37.2) (39.1) (41.0) (42.7) (44.4) (45.8) Tax-effected EBIT (NOPAT) Typical DCF Model (simplified) Add back: D&A Less: capital expenditures (3.5) (5.3) (3.9) (6.9) (5.3) (4.8) + / - Changes in working capital (0.5) (1.1) (1.1) (0.6) Unlevered Free Cash Flow Projection Period Mid-Year Convention Present Value Factor Present Value of Unlevered Free Cash Flows Sum of PV of Unlevered FCF Terminal Value: Perpetuity Growth Method Residual Cash Flow 69.3 Weighted Average Cost of Capital 9.5% Long-Term Growth Rate 2.5% Enterprise Value Capitalization Rate 7.0% (WACC - LTG) Future Value of Residual Cash Flow 990 Present Value Factor 0.66 PV Residual Cash Flow % Terminal Value: Exit Multiple Method Residual EBITDA Implied EBITDA Exit Multiple 8.2x Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 4

5 Considerations for Income Approach Reliability of management projections. How can you assess? When and how to calculate terminal value. What % of value is captured by TV? Estimating working capital and capital expenditures (capex) Tax rate (for NOPAT) Will postpone a detailed discussion of WACC until a future lecture Underlying assumptions for ROC = WACC Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 5

6 Two market approaches Guideline Public Companies (a.k.a Comparables ) Precedent Transactions Market Approaches Guideline Public Companies: Estimate of value derived from stock price/market capitalization of publicly traded companies Precedent Transactions: Estimate of value derived from consideration paid for equity in change-of-control transaction Both approaches: Derive estimates of value based on valuation multiples. Most common is EV/EBITDA. Depend critically on choice of comparable companies Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 6

7 Range of Indicated Multiples Typical GPC Model Sample Multiples Minimum Mean Median Maximum Subject Company Financials EV using Mean Multiple EV using Median Multiple [1] [2] [3] [4] [5] [6] [7] EV / LTM Total Revenues 0.5x 1.5x 1.0x 2.5x $ $ $ EV / LTM EBITDA 4.0x 5.8x 6.2x 7.5x $ $ $ EV / NFY EBITDA 3.5x 5.3x 5.7x 7.0x $ $ $ EV / NFY EBIT 3.5x 5.8x 5.9x 8.0x $ $ $ Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 7

8 Considerations for Market Approach How to identify comparables? How to assess comparables? Estimating working capital and capital expenditures (capex) Tax rate (for NOPAT) Select valuation multiple Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 8

9 Asset Approach Value of the business enterprise is equal to the sum of the values of the company s identifiable assets Most often used for asset holding companies e.g., parent company with operating subs; investment portfolio May depend on other valuation approaches to value the individual assets Also used in situations where a company s assets are or have become non operating. Examples: A mothballed plant A distressed company holding excess inventory A company being liquidated Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 9

10 Premise of value: Going-concern Liquidation, may be orderly or forced (e.g., fire sale ) Standard and Premise of Value Standard of value: Fair market value Investment value Fair value (most often define by legal statute or accounting guidelines) Idiosyncratic, where typically defined by contact (e.g., buy-sell agreements) Replacement value Although not technically a standard or premise, LBO modeling is another approach to valuation Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 10

11 Deriving an Estimate of Value Do you need a point estimate of value or is a range more appropriate? How do you reconcile if different methods provide different estimates of value? Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 11

12 Case Study #1: The Record Company The company owns a library of rights connected to recorded music, sheet music, lyrics and photo likenesses of artists. The company leases these rights to third-parties allowing the use of these assets in live performance, recorded performance, movies, advertising, etc. The company also manages a portfolio of artists (musician and vocal). The company advances monies to the artists to fund various development efforts such as live shows, public appearances, music recording, marketing memorabilia, etc. As the artist become profitable, the company recoups the advances and then earns a % of revenue. The percentages vary by the revenue stream (e.g., concert versus CD sales) Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 12

13 Case Study #2: Metals and Mining A large U.S. based company operates in the metals and mining sector. It mines, sources and develops materials that are used in large infrastructure development. The large U.S. company is purchasing a smaller Canadian company that operates in the same sector. The smaller company produces an excess of certain material (it is a by-produce of other materials it mines and produces). The excess material will be used in a current manufacturing process of the U.S. company. The U.S. company is currently sourcing this same material from third-party suppliers. The Canadian company recently emerged from bankruptcy. Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 13

14 Case Study #3 The Bookseller The bookseller operates a national chain of general purpose bookstores The bookseller also operates an online bookstore that competes most directly with Amazon.com (as it pertains to books and related publications). The online business provides book in written, audio and electronic form. The company recently acquired a college book business that operates dozens of college bookstores. These bookstores are branded as college or university but are managed and operated by the company. The college book business also leases text books directly to students, including students at universities where the company does not operate the college bookstore. Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 14

15 Case Study #4 The Bank The bank is a registered broker-dealer. It derives revenue in three ways: Mergers & acquisitions and capital markets advisory services. It manages a portfolio of proprietary investments. Some of the investments are in companies that are advisory clients of the bank. At times, the bank will accept an equity interest in a client in lieu (in whole or in part) of advisory fees. Regional retail bank that provides customer checking and savings accounts, home mortgages, consumer loans and small business loans. Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 15

16 Primary Sources of Information Financial statements Public disclosures (SEC filings, press releases, etc.) Stock price (publicly-traded companies) Earnings calls/investor presentations Equity (and credit ) analyst reports Publicly-announced M&A transactions Third-party industry research Information brokers Harvard University Extension School, Business Analysis and Valuation, Instructor: Yvette Austin Smith 16