Reasons for Business Valuations
-Acquisition
-IPO
-Shareholder Lawsuits
Disciplines involved in Business Valuations
-Finance
-Accounting
-Economics
-Marketing
Value of Business
Future benefits derived from a business
Valuation Process
-Project future benefits from business
-Determine present value of future benefits
Value of Public Company
-Valuation based on stock market
-Value of Equity —> Value outstanding shares + Control Premium
Value of Private Companies
-Valuation can’t be executed easily
-Private companies do not have to file results
-Financial statements may not be audited
-Financial statements can contain further costs
Standards of Value
-Fair market value —> standard of value
-Price a willing buyer would pay
-Price a willing seller would accept
Types of Standards of Value
-Fair Value
-Going Concern Value
-Liquidation Value
-Book Value
Fair Value
-Statutory standard that applies in dissenting stockholder disputes
-Legally required
-More ambiguous & less clear
Going Concern Value
-Not a standard value
-Assumption that business is a viable & ongoing business
Liquidation Value
-Opposite of Going Concern Value
-Value that owner realizes when business is terminated & assets are sold off
Types of Liquidation Values
-Orderly Liquidation
-Forced Liquidation
Orderly Liquidation
Assets sold over a reasonable time period so as to get the best price
Forced Liquidation
Assets sold quickly such as through an auction sale
Book Value
-Net Asset Value / Shareholder Equity
-Book Value = Assets - Liabilities
-Assets: usually valued at historical costs - depreciation
-Intangible assets & Litigation may not be included
Enterprise Value
-Value of the whole company
-Value of assets, debts + equity
Equity Value
-Share price * number of shares
Due Diligence in Business Valuations
-Economic Analysis
-Macroeconomic Analysis
Economic Analysis
-Evaluate economic climate in relation to valued company
-Business cycle cyclical?
Macroeconomic Analysis
-Trends in Macroeconomic Aggregates
GDP
Personal Income
Unemployment
Industry Analysis
-Trend analysis of Industry
-Competitiveness of Industry
-Regulation
-Recent relevant changes
-Marketing techniques & costs
-Financial Analysis
Financial Ratio Analysis
-Cross sectional & time series
-Liquidity Ratios
-Activity Ratios
-Leverage Ratios
-Performance Ratios
Mature Firms
-Have track record & long trend in sales data
-Historical growth rate & project future sales
New Growing Firms
-May expect the growth rate to slow down
-Current growth rate reduced it to industry growth within time period
Product Life Cycle
-Introduction
-Growth
-Maturity
-Decline
Startup Life Cycle
Financial Variables for Business Valuation
-Revenues (most fundamental)
-Gross Profit & Net Income
-EBITDA
-FCF
EBIT
-Performance measure —> not affected by capital structure & taxes
-Affected by non-cash depreciation expenses
-Good for comparing companies with different investments
Valuation without Management Input
-If valuing a target in hostile takeover
-Have to use public data
-Maybe use forecasts of revenues & earnings
Main Business Valuation Methods
-DCF
-Comparable Multiples
-Net Asset Value
-Venture Capital Method
-Berkus
FCF
-Amount of cash flow available for immediate use to business
-Interested in after tax FCF
DCF
-Forecast FCF for 6 periods
-Select the discount rate
-Value the company
Cost of Capital
-WACC —> overall cost of capital
-Calculation: debt (cost of capital after tax) & equity (cost of capital with risk premium)
Cost of debt
-Full debt structure or credit spread
-Interest is tax deductable
CAPM
-Cost of Equity
-Equity Risk Premium
-Risk free rate from bonds + inflation
-Beta —> depends on financing stage
Calculation Cost of Equity
Risk-Free Rate + Beta * Equity Risk Premium
Calculation Risk Premium
Expected Market Return - Risk-Free Rate
Financing stages
-Seed
-Startup —> Early-Stage
-Expansion —> Later-Stage
-Late
Seed Stage
-Launch
-Investments
-Proof-of-Concept
Startup-Stage
-Prototype
-Distribution
-High Capital Needs
Expansion Stage
-Cashflow
-Expansion
-New Markets
Late Stage
-Slower Growth
-Profitable
-Succession Products
Beta & Financing stage
-Shrinking Beta due advanced financing stages
-The lower the Beta —> the lower discount rate
Beta in the financing stages
-Seed: 6-12
-Startup: 3-6
-Expansion: 1.5-4.5
-Late: 0.5-2
Terminal Value
-Comany horizon is differentiated in & beyond planning horizon
-Calculated as perpetuity
Comparable Multiples
-Trailing Multiples
Data from published sources
-Forward Multiples
Expected Data from analysts
Multiples in Real World
-EV/EBITDA
-EV/EBIT
-Equity/NOPAT
Net Asset Value
-Useful for Real Estate
-Potential for Inaccuracy —> misleading earnings & book values don’t reflect market values
Venture Capital Method
-Fast & easy
-Mix of DCF & Multiples
-Use in VC Companies
Pre- & Post-Money Valuation
-Pre-Money Valuation: Value of company before investment
-Post-Money Valuation: Value of company after investment (Pre-Money + Investment)
Berkus
-Company reaches $20 million revenue by fifth year
-Check against 5 criterias from Berkus (each criteria half million)
Berkus Criteria
-Sound Idea
-Quality Management Team
-Strategic Relationships
-Product Rollout or Sales
Disciplinary Effects
-Poorly managed companies —> discount relative to potential value —> target
Valuation of Private Businesses
-Low earnings due to tax
-Lower disclosure requirements
-Lower multiples —> not being marketable (Discount)
Changing Interest Rates & Valuation
-Declinign Interest Rates —> Lower discount rates
-Lower discount rates —> higher values due declining denominator
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