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1、Valuation Valuation as a ToolWe encounter valuation in many situations:Mergers & AcquisitionsLeveraged Buy-outs (LBOs & MBOs)Sell-offs, spin-offs, divestituresInvestors buying a minority interest in companyInitial public offerings How do we establish value of assets?Objective today: To preview valua

2、tion methods used most commonly in practiceBusiness Valuation TechniquesDiscounted cash flow (DCF) approachesDividend discount modelFree cash flows to equity model (direct approach)Free cash flows to the firm model (indirect approach)Relative valuation approachesP/E (capitalization of earnings)Enter

3、prise Value/EBITDA Other: P/CF, P/B, P/S Control transaction based models (e.g. value based on acquisition premia of “similar transactions) Discounted Cash Flow ValuationWhat cash flow to discount?Investors in stock receive dividends, or periodic cash distributions from the firm, and capital gains o

4、n re-sale of stock in futureIf investor buys and holds stock forever, all they receive are dividendsIn dividend discount model (DDM), analysts forecast future dividends for a company and discount at the required equity return Problem with dividends: they are “managedDividends: The Stability FactorFa

5、ctors that influence dividends:Desire for stabilityFuture investment needsTax factorsSignaling prerogativesDividend changes: Publicly traded U.S. FirmsSource: A. Damodaran, Investment Valuation, Wiley, 1997Valuation: Back to First PrinciplesValue of the firm = value of fixed claims (debt) + value of

6、 equity How do managers add to equity value?By taking on projects with positive net present value (NPV)Equity value = equity capital provided + NPV of future projectsNote: Market to book ratio (or “Tobins Q ratio) 1 if market expects firm to take on positive NPV projects (i.e. firm has significant “

7、growth opportunities)Valuation: First PrinciplesTotal value of the firm = debt capital provided + equity capital provided+ NPV of all future projects project for the firm= uninvested capital +present value of cash flows from all future projects for the firmNote: This recognizes that not all capital

8、may be currently used to invest in projectsThe Valuation ProcessIdentify cash flows available to all stakeholders Compute present value of cash flowsDiscount the cash flows at the firms weighted average cost of capital (WACC)The present value of future cash flows is referred to as:Value of the firms

9、 invested capital, orValue of “operating assets or “Total Enterprise Value (TEV)The Valuation Process, continuedValue of all the firms assets (or value of “the firm) = Vfirm = TEV + the value of uninvested capitalUninvested capital includes:assets not required (“redundant assets) “excess cash (not n

10、eeded for day-to-day operations)Value of the firms equity = Vequity = Vfirm - Vdebtwhere Vdebt is value of fixed obligations (primarily debt) Total Enterprise Value (TEV)For most firms, the most significant item of uninvested capital is cashVfirm = Vequity + Vdebt = TEV + cashTEV = Vequity + Vdebt -

11、 cashTEV = Vequity + Net debtwhere Net debt is debt - cash (note: this assumes all cash is “excess)Measuring Cash FlowsFree Cash Flow to the Firm (FCFF)represents cash flows to which all stakeholders make claim FCFF = EBIT (1 - tax rate) + Depreciation and amortization (non cash items)- Capital Expe

12、nditures - Increase in Working CapitalWhat is working capital?Non-cash current assets - non-interest bearing current liabilities (e.g. A/P & accrued liab.)Working Capital vs. Permanent FinancingShort-termassetsShort- termliabilitiesPermanentCapitalLong-termassetsPermanentCapitalOperatingassetsWorkin

13、g capitalPermanent capital may include “current items such as bank loans if debt is likely to remain on the booksKey: Treat items as either working capital permanent capital but not bothUninvestedcapitalFCFF vs. Accounting Cash FlowsIncome Statement, Hudsons Bay($millions, FYE Jan 1999)Sales$7,075Co

14、st of Goods Sold $6,719EBITDA $ 356Depreciation$ 169EBIT$ 187Interest Expense $ 97Income Taxes$ 50Net Income$ 40Dividends $ 53Cash Flow Statement, Hudsons Bay, ($millions, FYE Jan 1999)Cash flow from operations Net Income $ 40 Non-cash expenses $ 169 Changes in WC ($116)Cash provided (used) by inves

15、tments Additions to P,P & E ($719)Cash provided (used) by financing Additions (reductions) to debt $ 259 Additions (reductions) to equity $ 356 Dividends ($ 53)Overall Net Cash Flows ($ 64)Hudsons Bay FCFF = 187 * (1- 0.44) + 169 - 719 - 116 = ($ 561)Cash Flow Definition IssuesHow is FCFF different

16、than accounting cash flows?Operating cash flows includes interest paid We want to identify cash flows before they are allocated to claimholdersFCFF also appears to miss tax savings due to debtKey: these tax savings are accounted for in WACCAn Example$1 million capital required to start firmCapital s

17、tructure: 20% debt (10% pre-tax required return)10% preferred debt (7% required return) 70% equity (15% required return)tax rate is 50%firm expects to generate 244,000 EBIT in perpetuityfuture capital expenditures just offset depreciationno future additional working capital investments are requiredW

18、hat should be the value of this firm?An Example, continuedAfter tax WACC is 12.2% so pre-tax WACC is 24.4%EBIT / capital is also 24.4%, so NPV of future projects for this firm is zeroValue of firm should equal $1 million (invested capital)FCFF = EBIT * (1-t) = $122,000Value = 122,000 / 0.122 = $1,00

19、0,000Two Stage FCFF ValuationImpossible to forecast cash flow indefinitely into the future with accuracyTypical solution: break future into “stagesStage 1 : firm experiences high growthSources of extraordinary growth:product segmentationlow cost producerPeriod of extraordinary growth:based on compet

20、itive analysis / industry analysisStage 2: firm experiences stable growthStage 1 ValuationForecast annual FCFF as far as firm expects to experience extraordinary growthgenerally sales driven forecasts based on historical growth rates or analyst forecastsEBIT, capital expenditures, working capital gi

21、ven as a percentage of salesDiscount FCFF at the firms WACC (kc)FCFF1 + FCFF2 + . . . + FCFFt1+kc (1+kc)2 (1+kc)tVALUE1 =Stage 2 ValuationStart with last FCFF in Stage 1Assume that cash flow will grow at constant rate in perpetuityInitial FCFF of Stage 2 may need adjustment if last cash flow of Stag

22、e 1 is “unusual spike in sales or other itemscapital expenditures should be close to depreciationValue 1 year before Stage 2 begins =FCFFt * (1+g)Kc - gStage 2 ValuationPresent value of Stage 2 cash flows (Terminal Value or TV):Key issue in implementation: Terminal growth (g) rate of “stable growth

23、in the economy (real rate of return 1-2% plus inflation)TEV = VALUEt + TV1(1+kc)txTV =FCFFt * (1+g)Kc - gDiscounted FCFF ExampleAssumptionsYearEBIT Dep Cap ExW/C Change1 40 4 6 22 50 5 7 33 60 6 8 4Tax rate = 40% kc = 10%Vdebt = value of debt = $100 Growth (g) of FCFFs beyond year 3 = 3%Discounted F

24、CFF Example (contd)FCFF = EBIT*(1-t) + Dep - CapEx - Increase in WC Year 1 FCFF = 40*(1 - 0.4) + 4 - 6 - 2 = 20Year 2 FCFF = 50*(1 - 0.4) + 5 - 7 - 3 = 25Year 3 FCFF = 60*(1 - 0.4) + 6 - 8 - 4 = 30Discounted FCFF Example (contd) 20 25 30 30*(1+g) 30*(1+g)2 | | | | | | t=0 1 2 3 4 5P = Vfirm 30*(1+g)

25、/(kc-g)TEV = 20/(1+kc) + 25/(1+kc)2 + 30/(1+kc)3 + 30*(1+g)/(kc-g)/(1+kc)3Discounted FCFF Example (contd)TEV = 20/(1.10) + 25/(1.10)2 + 30/(1.10)3 + 30*(1.03)/(0.10 - 0.03)/(1.10)3 = 18.2 + 20.7 + 22.5 + 331.7 = 393.0TEV + Cash = Vfirm = Vfirm = TEV =393.0Vfirm = Vdebt + Vequity = Vequity = Vfirm -

26、Vdebt Vequity = 393.0 - 100.0 = 293.0Relative Valuation ApproachesCapitalization of EarningsCompute the ratio of stock price to forecasted earnings for “comparable firms determine an appropriate “P/E multipleIf EPS1 is the expected earnings for firm we are valuing, then the price of the firm (P) sho

27、uld be such that:P / EPS1 = “P/E multipleRearranging, P = “P/E multiple x EPS1P/E Ratios and the DDMRecall the constant growth DDM model, but apply it to a firm with 100% payout ratio:P/E ratios capture the inherent growth prospects of the firm and the risks embedded in discount rateP/E Motto: Growt

28、h is Good, Risk is RottenP = D1 ke - gP = EPS1 ke - g P = 1 EPS1 ke - gP/E Ratio Based ValuationFundamentally, the “P/E multiple relates to growth and risk of underlying cash flows for firmKey: identification of “comparable firmssimilar industry, growth prospects, risk, leverageindustry averageTEV /

29、 EBITDA ApproachTEV = MVequity + MVdebt - cashEBITDA: earnings before taxes, interest, depreciation & amortizationCompute the ratio of TEV to forecasted EBITDA for “comparable firms determine an appropriate “TEV/EBITDA multipleIf EBITDA1 is the expected earnings for firm we are valuing, then the TEV

30、 for the firm should be such that: TEV / EBITDA1 = “EV/EBITDA multipleTEV / EBITDA ApproachRearranging: TEV = “EV/EBITDA multiple x EBITDA1Next solve for equity value using:MVequity = TEV - MVdebt + cashMultiples again determined from “comparable firms similar issues as in the application of P/E mul

31、tiplesleverage less important concernOther Multiple Based ApproachesOther multiples: Price to Cash Flow:P = “P/CF multiple X CF1Price to Revenue:P = “P/Rev multiple X REV1Multiple again determined from “comparable firmsWhy would you consider price to revenue over, for example, price to earnings?Merg

32、er MethodsComparable transactions:Identify recent transactions that are “similarRatio-based valuationLook at ratios to price paid in transaction to various target financials (earnings, EBITDA, sales, etc.)Ratio should be similar in this transactionPremium paid analysisLook at premiums in recent merg

33、er transactions (price paid to recent stock price)Premium should be similar in this transactionValuation Case ProcessSize-up the firm being valueddo projections seem realistic (look at past growth rates, past ratios to sales, etc.)?what are the key risks?Valuation analysisseveral approaches + sensit

34、ivities (tied to risks)Address case specific issuese.g. for M&A: what is fit (size-up bidder), any synergies, bidding strategy, structuring the transaction, etc.e.g. for capital raising: timing, deal structure, etc.The Valuation “MythsLike all analytical disciplines, valuation has developed its own set of myths over time:Myth 1. Valuation models are quantitative, so it i