1
Q
What are the 2 fundamental ways to value a company?
A
- Relative valuation (comparing a company’s worth to similar companies)
- Intrinsic valuation (estimating NPV of future cash flows‚ i.e. estimating how much a firm’s assets are worth net of liabilities)
2
Q
In addition to DCF analysis‚ what is another method of intrinsic valuation?
A
The “Net Asset” or “Liquidation” model‚ where you value the firm’s assets and liabilities‚ then subtract the modified Total Liability Value from the modified Total Asset Value. This method is more common in balance sheet-centric industries such as insurance.
3
Q
Why would in some industries might a DCF not be relevant in valuation?
A
- Free cash flow is not a meaningful metric.
- The industry is asset-centric‚ so you’re better off valuing the company’s assets and liabilities
Ex.: Commercial banks‚ insurance firms‚ (some) oil & gas companies‚ Real Estate Investment Trusts (REITs)
4
Q
When do public comps and precedent transactions work best?
A
When there is a lot of good market data and the companies are truly comparable. It doesn’t work as well when data is spotty or when company under analysis is unique or can’t easily be compared to others.
5
Q
What kind of firms is a DCF analysis best suited for?
A
DCF analysis works best for stable‚ mature companies with predictable growth rates and profit margins. It doesn’t work as well for high-growth start-ups‚ companies on the brink of bankruptcy‚ and other situations where growth and margins are artificially high‚ low or unpredictable.
6
Q
T/F: Will a DCF always produce higher values than comps?
A
False. The DCF can produce higher numbers‚ but not necessarily. The DCF is more dependent on assumptions than relative valuation. You could make extremely conservative assumptions‚ while market is currently hot/overvalued.
7
Q
Will precedent transactions (trading comps) generally produce higher numbers than public comps or vice versa?
A
Generally‚ precedent transactions will produce higher numbers because a buyer must pay a premium to acquire another company
8
Q
What are the 3 main criteria to pick comparable public companies?
A
- Geography
- Industry
- Financial (Revenue or EBITDA above‚ below‚ or between certain numbers)
9
Q
What are the 4 main criteria to pick precedent transactions?
A
- Geography
- Industry
- Financial (Revenue or EBITDA above‚ below‚ or between certain numbers)
- Time (“transactions since …” or “transactions between Year X and Year Y”)
10
Q
What are some variants of public comps and precedent transaction models?
A
- M&A Premium Analysis - still based on precedent transactions‚ but instead of calculating valuation multiples‚ you calculate premiums that buyers have paid.
- Future Share Price Analysis - project a company’s future share price based on P/E (or other) multiples of comparable companies‚ then discount back to present value
- Sum of the Parts - split a company into different segments‚ pick different sets of public comps and precedent transactions for each‚ assign multiples‚ value each division separately‚ then add up all the values at the end to determine company’s total value.
11
Q
What is EBIT?
A
Earnings Before Interest & Taxes:
This is the firm’s operating income from the I/S (Revenue - COGS - Operating Expenses). This includes impact of depreciation‚ amortization and other non-cash charges
12
Q
What is EBITDA?
A
Earnings Before Interest‚ Taxes‚ Depreciation & Amortization
The idea is to remove most non-cash charges and make it more accurately reflect cash flow potential (proxy for free cash flow). You may add back other non-cash charges‚ such as stock-based compensation.
13
Q
How do you get unlevered free cash flows (free cash flow to firm)?
A
EBIT*(1 - tax rate) + Non-cash charges - changes in operating assets and liabilities - CapEx
14
Q
How do you get levered free cash flows (free cash flow to equity)?
A
Net Income + Non-Cash Charges - changes in operating assets and liabilities - CapEx - Mandatory Debt Payments
15
Q
What is the Enterprise Value / EBIT multiple used for? What does it mean?
A
- Used for many types of companies‚ mostly useful for those where CapEx is more important to factor in (since D&A flows CapEx closely)
- It’s a rough approximation of how valuable a company is relative to its income from business operations
16
Q
What is the Enterprise Value / EBITDA multiple used for? What does it mean?
A
- Used for many types of companies‚ most useful for those where CapEx and D&A are not as important since it excludes both.
- It’s a rough approximation of how valuable a company is relative to its operational cash flow
17
Q
What is the P/E multiple used for? What does it mean?
A
- Used for many types of companies‚ most relevant for banks and financial institutions‚ distorted by non-cash charges‚ capital structure and tax rates
- It’s a rough measure of how valuable a company is in proportion to its after-tax earnings.
18
Q
What is the Equity Value / Levered FCF multiple used for? What does it mean?
A
- Not very common b/c it requires more work to calculate and may produce wildly different numbers depending on capital structure
- It’s the most accurate measure of a company’s true “cash flow” and how valuable it is relative to that cash flow
19
Q
What is the Enterprise Value / Unlevered FCF multiple used for? What does it mean?
A
- Used when CapEx or changes in operational assets and liabilities such as Deferred Revenue have a big impact‚ also critical in DCFs
- It’s similar to levered FCF‚ but it’s capital structural-neutral‚ so it’s better for comparing different companies
20
Q
Of the valuation multiples‚ which are the most common? Which is the “worst”?
A
- EV/EBITDA and EV/EBIT are the most common.
- P/E is probably the “worst” or “least accurate” since it includes non-cash charges and impacted by tax rates and capital structure. P/E more commonly used among general public than finance professionals.
21
Q
What are some of the drawbacks with using the FCF multiples vs. EBIT and EBITDA multiples?
A
- They take more time to calculate and you have to go through financial statements in more detail.
- They may not be standardized since companies include very different items in the CFO section of the SCF.
Summary: EBIT & EBITDA multiples are more common due to convenience and comparability.
22
Q
What are some book value multiples? And what are some of the issues with using them?
A
- Equity Value / Book Value‚ Price per Share / Book Value per Share
- BV multiples have become less relevant over time b/c most firm’s equity value (market value) is vastly different from its book value (Shareholder’s Equity on the B/S).
- This is b/c firms have become more service-oriented and intellectual property-oriented.
23
Q
What are some industry specific multiples?
A
- Retail‚ Restaurant‚ and Airlines (EV/EBITDAR): used for comparability by adding back rental expense b/c some companies rent while others own
- Oil & Gas Companies (EV/EBITDAX): used for comparability by adding back exploration expense b/c some companies capitalize (portions of) their expense while others expense directly to I/S. EV/Proved Reserves and EV/Daily Production are also important for energy.
- Real Estate (P/FFO or P/AFFO): P = Price‚ FFO = Funds from Operations‚ AFFO = Adj. FFO‚ more accurate the P/E for REITs since they add back depreciation (large non-cash charge) and gains/losses
- Internet Companies (EV/Unique Visitors or EV/Registered Users): used if company is not yet profitable or generating revenues
24
Q
T/F: Does a valuation tell you how much a company is worth?
A
False. A valuation only gives you a range of possible values for a company. Valuation is all about the potential range for a company’s value.
25
What is the advantage and disadvantage to using public comps?
* Adv.: based on real data as opposed to future assumptions
| * Dis.: there may not be true comparables‚ less accurate for thinly traded stocks or volatile companies
26
What is the advantage and disadvantage to using precedent transactions?
* Adv.: based on what real companies have actually paid for other companies
* Dis.: data can be spotty (esp. for private acquisitions)‚ there may not be truly comparable transactions
27
What is the advantage and disadvantage to using DCF analysis? And what can you say in general about the resulting valuations?
* Adv.: not as subject to market fluctuations‚ theoretically sound since it's based on ability to generate cash flows
* Dis.: subject to far-in-the-future assumptions‚ less useful for fast-growing‚ unpredictable companies
* Val.: tends to be the most variable b/c of dependence on assumptions
28
What is the advantage and disadvantage to using Liquidation Valuation? And what can you say in general about the resulting valuations?
* Adv.: ignores "noise" in the market and determines value based on assets & liabilities
* Dis.: not useful for most healthy companies b/c it tends to produce extremely low values
* Val.: 99% of the time will produce the lowest number b/c most companies are worth more than what their book value (balance sheets) suggest
29
What is the advantage and disadvantage to using M&A Premium Analysis?
Same issues as precedent transactions
• Adv.: based on what real companies have actually paid for other companies
• Dis.: Can't use acquisitions of private companies b/c premiums only apply to public companies w/ stock prices‚ data can be spotty‚ there may not be truly comparable transactions.
30
What is the advantage and disadvantage to using Future Share Price Analysis?
* Adv.: tells you how much a company might be worth‚ theoretically‚ 1-2 years in the future
* Dis.: dependence on assumptions
31
What is the advantage and disadvantage to using Sum of the Parts Analysis? And what can you say in general about the resulting valuations?
* Adv.: more accurately values diversified conglomerate-type companies
* Dis.: appropriate data for each division is often lacking
* Val.: if a company really is "worth more in parts" this will produce higher values than relative valuations
32
What is the advantage and disadvantage to using LBO Analysis? And what can you say in general about the resulting valuations?
* Adv.: sets a "floor" on valuation by determining the min. amount a PE firm could pay to achieve returns
* Dis.: gives a relatively low/"floor" number rather than a wide range of values
* Val.: tends to produce lower values‚ usually lower than DCF or relative valuation‚ but ultimately dependent on assumptions
33
What can you say in general about valuations using Public Comps vs. Trading Comps?
Trading comp valuations tend to be higher due to the control premium (premium the buyer pays to acquire the seller)
34
What are the 3 major valuation methodologies?
1. Public Company comparables (public comps) - relative valuation
2. Precedent Transactions (trading comps) - relative valuation
3. Discounted Cash Flow analysis - intrinsic valuation
35
Can you walk me through how you use Public Comps and Precedent Transactions?
1. Select the universe of comparable companies based on key criteria (e.g. industry‚ financial metrics‚ geography)
2. Locate the necessary financial information
3. Spread key statistics‚ ratios‚ and trading multiples (e.g. revenue‚ revenue growth‚ EBITDA‚ EBITDA margins‚ revenue and EBITDA multiples)
4. Benchmark the comparable companies (min.‚ 25%ile‚ median‚ 75%ile‚ max)
5. Apply multiples & determine valuation
36
How do you select Comparable Companies or Precedent Transactions?
1. Business Profile (sector‚ products and services‚ customers and end markets‚ distribution channels‚ geography)
2. Financial Profile (size‚ profitability‚ growth profile‚ return on investment‚ credit profile)
37
For Public Comps‚ you calculate Equity Value and Enterprise Value for use in multiples based on companies' share prices and share counts... but what about for Precedent Transactions? how do you calculate multiples there?
* multiples should be based on the purchase price of the company at the time of the deal announcement (the affected share price)
* you only care about what the offer price was at the initial deal announcement. You never look at the company's value prior to the deal being announced.
38
How would you value an apple tree?
* same way you would value a company: what are comparable apple trees worth? (relative valuation)
* present value of FCF for the apple (intrinsic valuation)
39
When is a DCF useful? When is it not useful?
* DCF is best when the company is large‚ mature‚ and has stable and predictable cash flows (the far-in-the-future assumptions will be more accurate)
* DCF is not as useful if the company has unstable or unpredictable cash flows (start-up) or when Debt and Operating Assets & Liabilities serve fundamentally different roles (financial institutions)
40
What other valuation methodologies are there?
* Liquidation Valuation: valuing a company's assets‚ assuming they are sold off and then subtracting Liabilities to determine how much capital‚ if any‚ equity investors receive
* LBO Analysis: determining how much a PE firm could pay for a company to hit a target IRR‚ usually in the 20-25% range
* Sum of the Parts: Valuing each division of a company separately and adding them together at the end
* M&A Premiums Analysis: analyzing M&A deals and figuring out the premium that each buyer paid‚ and using this to establish what your company is worth
* Future Share Price Analysis: projecting a company's share price based on the P/E multiples of the public company comparables and then discounting it back to its present value
41
When is a Liquidation Valuation useful?
* Most common in bankruptcy scenarios and is used to see whether or not shareholders will receive anything after the company's Liabilities have been paid off with the proceeds from selling all its Assets
* Often used to advise struggling businesses whether it's better to sell off Assets or sell 100% of company
42
When would you use a Sum of the Parts Valuation?
For conglomerates that have completely unrelated divisions (e.g. GE)
• Should use different comparable sets for each division‚ value each division separately‚ and then add them back together to calculate Total Value
43
When do you use an LBO Analysis as part of your valuation?
* obviously for LBOs
* used to "set a floor/lower bound" on company valuation‚ min. amount that PE firm would be willing to pay to achieve targeted returns
* often see it used when both strategics (normal companies) and financial sponsors are competing to buy the same company and you want to determine the potential price if a PE firm were to acquire the company.
44
How do you apply the valuation methodologies to value a company?
* Present range of valuations from different methodologies on a "football field"
* to do this‚ calculate min.‚ 25%ile‚ median‚ 75%ile‚ max values for each set (2-3 years of comps and the transactions‚ for each different multiple used) and then multiply by the relevant metrics for the company you're analyzing)
* For public companies‚ you will also work backwards to calculate Equity Value and implied per Share Price based on this.
45
Can you walk me through how to calculate EBIT and EBITDA? How are they different?
* EBIT is just a company's operating income on its I/S‚ it includes not only COGS and operating expenses‚ but also non-cash expenses such as D&A and therefore reflects‚ at least indirectly‚ the company's CapEx
* EBITDA is defined as EBIT plus D&A. You may sometimes add back other expenses
* The idea of EBITDA is to move closer to a company's "cash flow‚" since D&A are non-cash expenses‚ but the problem is that you exclude CapEx altogether
46
Can you walk me through how to calculate Unlevered FCF (FCF to Firm) and Levered FCF (FCF to Equity)?
* Unlevered FCF = EBIT*(1 - Tax Rate) + Non-cash expenses - Change in Operating Assets & Liabilities - CapEx
* Levered FCF = Net Income + Non-Cash expenses - Change in Operating Assets & Liabilities - CapEx - Mandatory Debt Repayments
47
What are the most common valuation multiples? And what do they mean?
* EV/Revenue: how valuable a company is relative to its overall sales
* EV/EBITDA: how valuable a company is relative to its approximate cash flow
* EV/EBIT: how valuable a company is relative to the pre-tax profit it earns from its core business operations
* P/E: how valuable a company is in relation to its after-tax profits‚ inclusive of interest income and expense and other non-core business activities
* Other multiples include P/BV‚ EV/Unlevered FCF‚ Equity Value/Levered FCF
* EV/Unlevered FCF is closer to true cash flow than EV/EBITDA but takes more work to calculate‚ and Equity Value/Levered FCF is even closer‚ but is affected by company's capital structure and takes even more time to calculate.
48
How are the key operating metrics and valuation multiples correlated? In other words‚ what might explain a higher or lower EV/EBITDA multiple?
* Usually there is a correlation between growth and valuation multiples
* Math also plays a role‚ sometimes companies w/ extremely high EBITDA margins may have lower EBITDA multiples because EBITDA itself is much higher to begin with (and its in the denominator)
49
Why can't you use Equity Value / EBITDA as a multiple rather than EV/EBITDA?
Equity Value/EBITDA is comparing apples to oranges because equity value does not reflect the company's entire capital structure (only what is available to common shareholders).
50
What would you use with Free Cash Flow multiples - Equity Value or Enterprise Value?
* For Unlevered FCF‚ you use enterprise value (cash flow available to all investors)
* For levered FCF‚ you use equity value (cash flow available to equity investors)
51
Why does Warren Buffet prefer EBIT multiples to EBITDA multiples?
* WB dislikes EBITDA b/c it hides the CapEx companies make and disguises how much cash they require to finance their operations
* Any industry that is capital intensive and asset-heavy will have a huge disparity between EBIT and EBITDA
* Note: EBIT itself does NOT include CapEx but it includes depreciation (which is directly linked to CapEx). If a company has high depreciation‚ chances are it has high CapEx spending
52
What are some problems with EBITDA and EBITDA multiple? And if there are so many problems‚ why do we still use it?
* It hides the amount of debt principal and interest that a company is paying each year‚ which can be very large and make company cash flows negative‚ also hides CapEx spending
* EBITDA also ignores working capital requirements (e.g. A/R‚ Inv.‚ A/P)‚ which can be large for some companies
* in a lot of cases EBITDA may not even be close to true cash flow‚ it's widely used for convenience and comparability (better for comparing cash generated by a company's core business operations than other metrics)
53
The EV/EBIT‚ EV/EBITDA‚ and P/E multiples all measure a company's profitability. What's the difference between them‚ and when do you use each one?
* P/E is dependent on company's capital structure‚ EV/EBIT and EV/EBITDA are capital structure-neutral. So you use P/E for financial institutions where interest is critical and capital structures are similar.
* EV/EBIT includes D&A‚ where EV/EBITDA excludes it‚ more likely to use EV/EBIT in industries where D&A is large and where CapEx and fixed assets is important (manufacturing) and EV/EBIT where fixed assets are less important and where D&A is comparatively smaller (e.g. internet companies)
54
Could EV/EBITDA ever be higher than EV/EBIT for the same company?
* No‚ by definition EBITDA must be greater than or equal to EBIT‚ b/c EBITDA = EBIT + D&A (neither of which can be negative‚ can be $0 theoretically)
* Since EBITDA is always greater than or equal to EBIT‚ EV/EBITDA must always be less than or equal to EV/EBIT for a single company
55
What are some examples of industry-specific multiples?
* Technology/Internet: EV/Unique Visitors‚ EV/Page Views
* Retail/Airlines: EV/EBITDAR (EBITDA + Rental Expense)
* Oil & Gas: EV/EBITDAX (EBITDA + Exploration Expense)‚ EV/Production‚ EV/Proved Reserves
* Real Estate Investment Trusts (REITs): Price/FFO per Share‚ Price/AFFO per Share (Funds from Operations‚ Adj. Funds from Operations)
56
When you're looking at an industry specific multiple like EV/Proved Reserves or EV/Subscribers (for telecom companies‚ for example)‚ why do you use Enterprise Value rather than Equity Value?
Enterprise Value is used b/c those proved reserves or subscribers are "available" to all the investors (both debt and equity) in a company. This is almost always the case unless the metric already includes interest income and expense (FFO & AFFO)
57
Rank the 3 main valuation methodologies from highest to lowest expected value.
Trick question - there is no one ranking that will always hold up.
• In general‚ precedent transactions will be higher than comparable public companies due to the control premium built into acquisitions (buyer must pay premium to acquire seller)
• DCF could go either way‚ best to say it's just more variable than other methodologies. Often produces highest value‚ but can produce lowest value as well depending on assumptions.
58
Would an LBO or DCF produce a higher valuation?
Technically‚ could go either way‚ but in most cases LBO gives lower valuation.
• With LBO‚ you do not get any value form the cash flows of a company in between Year 1 and the final year‚ you only get "value" out of its final year
• With DCF‚ you're taking into account both the company's cash flows in the period itself as well as the terminal value‚ so values tend to be higher
• Note: unlike DCF‚ the LBO model itself does not give you a valuation‚ you start with a target IRR and then back-solve the implied valuation of the company (how much sponsor could pay)
59
When would a Liquidation produce the highest value?
highly unusual‚ but could happen if company has substantial hard assets but market was severely undervaluing it for a specific reason (missed earnings or cyclicality)
60
Why are public comps and precedent transactions sometimes viewed as being "more reliable" than a DCF?
* b/c they're based on actual market data vs. assumptions about the future
* note you still need to make future assumptions (Forward Year 1‚ Forward Year 2)
* also‚ sometimes you may not have good or truly comparable data‚ in which case a DCF might produce better results
61
What are the flaws with Public Company Comparables?
* no company is 100% comparable to another company
* stock market is "emotional"‚ multiples might be dramatically higher or lower on certain dates depending on market movements
* share prices for small companies w/ thinly traded stocks may not reflect full value
62
You mentioned that Precedent Transactions usually produce a higher value than Comparable Companies - can you think of a situation where this is not the case?
• this can occur when there is substantial mismatch between M&A markets and public markets. For example‚ no public companies have been acquired recently but lots of small private companies have been acquired at low valuations
63
What are some flaws with Precedent Transactions?
* past transactions are rarely 100% comparable - the transaction structure‚ size of the company‚ and market sentiment all make a huge impact
* data on precedent transactions is generally more difficult to find than it is for public company comparables‚ esp. for acquisitions of small private companies
64
How would you present these Valuation methodologies to a company or its investors? And what do you use it for?
* usually you use a "football field" chart where valuation ranges are implied by each methodology. You ALWAYS show a range rather than one specific number
* you could use a valuation for: 1) pitch books and client presentations‚ 2) parts of other models (defense analyses‚ merger models‚ LBO models‚ DCFs‚ almost everything in finance will incorporate a valuation in some way‚ 3) fairness opinions
65
Why would a company with similar growth and profitability to its Comparable Companies be valued at a premium?
* Company has just reported earnings well above expectations and its stock price has risen in response
* has some type of competitive advantage not reflected in financials‚ such as a key patent or other intellectual property
* just won a favorable ruling in a major lawsuit
* is the market leader in an industry and has greater market share than its competitors
66
How do you take into account a company's competitive advantage in a valuation?
1. Highlight the 75th percentile or higher for the multiples rather than the median
2. Add in a premium to some of the multiples
3. Use more aggressive projections for the company
67
Do you ALWAYS use the median multiple of a set of public company comparables or precedent transactions?
No‚ you almost always show a range. You may make the median the center of the range‚ but you don't have to (you could focus on 75%ile‚ 25%ile or anything else‚ depending on if the company is outperforming‚ underperforming‚ etc.)
68
Two companies have the exact same financial profiles (revenue‚ growth‚ and profits) and are purchased by the same acquirer‚ but the EBITDA multiple for one transaction is twice the multiple of the other transaction - how could this happen?
* One process was more competitive and had a lot more companies bidding on the target
* One company had recent bad news or a depressed stock price so it was acquired at a discount
* They were in industries w/ different median multiples
* The two companies have different accounting standards and have added back different items when calculating EBITDA‚ so the multiples are not truly comparable
69
If you were buying a vending machine business‚ would you pay a higher EBITDA multiple for a business that owned the machines and where they depreciated normally‚ or one in which the machines were leased? The depreciation expense and the lease expense are the same dollar amounts and everything else is held constant.
Higher multiple for the one w/ leased machines‚ all else being equal.
• Purchase Enterprise Value would be the same for both acquisitions‚ but depreciation is excluded from EBITDA‚ so EBITDA is higher (dep. exp. added back)
• For the company w/ the lease‚ the lease expense would show up in operating expenses‚ making EBITDA lower and the EV/EBITDA multiple higher to get to the same EV.
70
How would you value a company that has no profit and no revenue?
1. You could use the Comparable Companies and the Precedent Transactions and look at more "creative" multiples such as EV/Unique Visitors and EV/Pageviews (internet start-ups) rather than EV/Revenue or EV/EBITDA
2. You could use a "far-in-the-future" DCF and project a company's financials out until it actually earns revenue and profit (e.g. biotech and pharmaceutical firms)
71
The S&P500 Index has a median P/E multiple of 20x. A manufacturing company you're analyzing has earnings of $1M. How much is the company worth?
Depends on how it's performing relative to the index and relative to companies in its own industry (outperforming can lead to $25-30M‚ performing on par would be $20M‚ or underperforming would be <$20M)
72
A company's current stock price is $20/share and its P/E multiple is 20x‚ so its EPS is $1. It has 10M shares outstanding. Now it does a 2-for-1 stock split - how do its P/E multiple and valuation change?
They don't
• Company has 20M shares outstanding‚ but equity value has stayed the same‚ so share price will fall to $10‚ EPS falls to $0.50‚ and P/E multiple remains at 20x
• Splitting stock into fewer units or additional units does not‚ by itself‚ make a company worth more or less (in practice‚ a stock split is viewed favorably by the market and a company's value may go up and it's share price‚ in this case‚ might not necessarily be cut in half)
73
Let's say that you're comparing a company with a strong brand name‚ such as Coca-Cola‚ to a generic manufacturing or transportation company. Both companies have similar growth profiles and margins. Which one will have the higher EV/EBITDA multiple?
* Most likely the firm with the strong brand will get the higher valuation
* Remember that valuation is not a science‚ it's an art‚ and the market can behave irrationally. Values are not based strictly on financial criteria‚ and other factors such as brand name or "trendiness" can all make an impact.
74
Walk me through an M&A Premiums Analysis.
1. Select the precedent transactions based on industry‚ date and size.
2. For each transaction‚ get the seller's share price 1 day‚ 20 days‚ 60 days before the transaction was announced‚ i.e. the unaffected share price (you can also look at 90-day intervals‚ or 30 days‚ 45 days‚ etc.)
3. Calculate the 1-day premium‚ 20-day premium‚ etc. by dividing the per-share purchase price by the appropriate share price on each day.
4. Get the medians for each set‚ and then apply them to your company's share price‚ share price 20 days ago‚ and so on to estimate how much of a premium a buyer might pay for it.
• You only use this when valuing a public company b/c private companies don't have share prices. Sometimes the set of companies here is exactly the same as your set of precedent transactions‚ but typically is broader.
75
Both M&A premiums and precedent transactions involve analyzing previous M&A transactions. What's the difference in how we select them?
* All the sellers in the M&A Premiums Analysis must be public
* Usually we use a broader set of transactions for M&A premiums (we might use fewer than 10 precedent transactions but we might have dozens of M&A premiums. The industry and financial screens are usually less stringent.
* Aside from those‚ screening criteria are similar‚ financial metrics‚ industry‚ geography‚ and date.
76
Walk me through a Futures Share Price Analysis.
• Purpose is to project company's share price 1 or 2 years from now and then discount back to present value.
1. Get the median historical (usually Trailing Twelve Months‚ TTM) P/E multiple of the public company comparables
2. Apply this P/E multiple to your company's 1-year forward or 2-year forward projected EPS to get its implied future share price
3. Discount this share price back to its present value by using a discount rate in line with the company's cost of equity
• Normally look at range of P/E multiples and discount rates (sensitivity table)
77
Walk me through a Sum of the Parts Analysis.
1. Value each division of a company using Comparable Companies and Precedent Transactions.
2. Get to separate multiples for each division and apply to company's division's metrics for division valuation.
3. Add up each division's value to get total value for company
• picking a range of multiples for each division is crucial
78
How do you value Net Operating Losses (NOLs) and take them into account in a valuation?
* You determine how much the NOLs will save the company in taxes in future years‚ and then calculate the NPV of total future tax savings.
* The 2 ways to estimate tax savings in future years: 1) assume that company can use NOLs to completely offset its taxable income until the NOLs run out‚ 2) in an acquisition scenario‚ use Section 382 and multiply the highest adjusted long-term rate of the past 3 months by the Equity Purchase Price of the seller to determine the maximum allowed NOL usage in each year - and then use that to determine how much the company can save in taxes.
* Practically speaking‚ you MAY look at NOLs in a valuation‚ but you rarely factor them in. If you did‚ they would be treated similarly to Cash and you would subtract NOLs to go from Equity Value to Enterprise Value‚ and vice versa
79
What's the purpose of calendarization? How do you use it in a valuation?
* Calendarization is used b/c different companies have different fiscal years.
* This creates a problem b/c you can't directly compare all these periods. You always need to look at the same calendar period when you create a set of public comps.
* So you adjust all the fiscal years by adding and subtracting "partial" periods. You almost always adjust other companies' fiscal years to match the company you're valuing.
* Ex.: If you fiscal year July 1 - Jun 30 and need to calendarize to end on Dec 31‚ you would 1) start with a Jul 1 - Jun 30 statement‚ 2) add the Jul 1 - Dec 31 financials from THIS year‚ 3) subtract the Jul 1 - Dec 31 financials from LAST year
80
Does calendarization apply to both Public Comps and Precedent Transactions?
* Applies mostly to Public Comps b/c there's a high chance that fiscal years will end on different dates w/ a big enough set of companies
* In effect‚ you do calendarize for Precedent Transactions as well b/c you normally look at the Trailing Twelve Months (TTM) period for each deal
81
I'm looking at financial data for a public company comparable‚ and it's April (Q2) right now. Walk me through how you would calendarize this company's financial statements to show the Trailing Twelve Months as opposed to just the last Fiscal Year.
TTM = Most Recent Fiscal Year + New Partial Period - Old Partial Period
• TTM = (Jan 1 - Dec 31) of most recent FY + Q1 of this FY (Jan 1 - Mar 31) - Q1 of previous FY (Jan 1 - Mar 31)
• For US-based companies‚ can find quarterly numbers in the 10-Q
82
Let's say that you're looking at a set of Public Comps with fiscal years ending on March 31‚ June 30‚ and December 31. The company you're analyzing has a fiscal year that ends on June 30. How would you calendarize the financials for these companies
* You generally calendarize to company you're valuing‚ so in this case‚ Jun 30
* For the Mar 31: take the current FY‚ add the Mar 31 - Jun 30 period‚ subtract the Mar 31 - Jun 30 period from the previous FY
* For the Dec 31‚ take the current FY‚ add the Jan 1 - Jun 30 period‚ subtract the Jan 1 - Jun 30 period from the previous FY
83
You're analyzing the financial statements of a Public Comp‚ and you see Income Statement line items for Restructuring Expenses and an Asset Disposal Should you add these back when calculating EBITDA?
TRICK QUESTION
• You should always take these charges from the SCF if possible‚ sometimes the charges are partially embedded within other line items on the I/S. If they don't appear on the SCF‚ look them up in the Notes to the Financial Statements.
• You only add them back to EBITDA if they're truly non-recurring charges. If a company claims to be "restructuring" for the past 5 years‚ that's not exactly a non-recurring expense...
84
How do non-recurring charges typically affect valuation multiples?
• Most of the time‚ non-recurring charges typically increase valuation multiples since they reduce metrics such as EBIT‚ EBITDA‚ and EPS. You could have non-recurring income as well (e.g. a one-time asset sale) which would have the opposite effect
85
We're valuing a company's 30% interest in another company - in other words‚ an Investment in Equity Interest or Associate Company. We could just multiply 30% by that company's value‚ but what other adjustments might we make?
* Normally a "liquidity discount" or "lack of control discount" is applied and so it's assumed that the stake is worth 20-30% (or more) less than the book value b/c the company you're valuing doesn't truly control this other company
* Also‚ you may also take tax implications into consideration‚ since these types of investments may likely be sold off. You would apply the company's tax rate in addition to the liquidity discount and calculate the after-tax proceeds.
86
I have a set of public company comparables and need to get the projections from equity research. How do I select which report to use?
This varies by bank and group‚ but the 2 most common methods are:
1. You pick the report with the most detailed information.
2. You pick the report with numbers in the middle of the range.
• You DO NOT pick reports based on which bank they're coming from (esp. if they're from the same bank you're at‚ appearance of lack of objectivity)
87
I have a set of precedent transactions but I'm missing information like EBITDA for a lot of the companies‚ since they were private. How can I find it if it's not available via public sources?
1. Search online and see if you can find press releases or articles in the financial press with these numbers.
2. Failing that‚ look in equity research for the buyer around the time of the transaction and see if any of the analysts estimate the seller's numbers.
3. Also look at online sources like Capital IQ and Factset and see if any of them disclose numbers or give estimates for the deals.
88
You're analyzing a set of transactions where the buyers have acquired everything from 20% to 80% to 100% of other companies. Should you use all of them as part of your valuation?
* Ideally no. It's best to limit the set to just 100% acquisitions‚ or at least >50 acquisitions‚ b/c the dynamics are very different when you acquire an entire company or majority stake vs. a minority stake.
* You may not always be able to do this due to lack of data or lack of transactions‚ but generally transactions get less and less comparable as the percentage acquired varies by more and more.
89
You're analyzing a transaction where the buyer acquired 80% of the seller for $500M. The seller's revenue was $300M and its EBITDA was $100M. It also had $50M in cash and $100M in debt. What were the revenue and EBITDA multiples for this deal?
1. Equity Value = $500M/80% = $625M
2. Enterprise Value = Equity Value - Cash + Debt = $625M - $50M + $100M = $675M
3. Revenue Multiple = $675M / $300M = 2.25x
4. EBITDA Multiple = $675M / $100M = 6.75x
90
How far back and forward do we usually go for public company comparable and precedent transaction multiples?
* Usually‚ you look at the TTM period for both sets and then you look forward 1 or 2 years.
* You're more likely to look backward more than 1 year and go forward more than 2 years for public company comparables‚ for precedent transactions it's odd to go forward more than 1 year b/c the information is more limited.
91
I have one company with a 40% EBITDA margin trading at 8x EBITDA‚ and another company with a 10% EBITDA margin trading at 16x EBITDA. What's the problem with comparing these two valuations directly?
* It can be misleading to compare companies w/ drastically different margins. Due to basic math‚ the 40% margin company will usually have a lower multiple (whether or not its actual value is lower)
* In this situation‚ might want to consider screening based on margins and remove the outliers - you would not try to "normalize" the EBITDA multiples based on margins.
92
How do you value a private company?
* You use the same methodologies as with public companies: public comps‚ trading comps‚ and DCF‚ but there are some differences:
* You might apply a 10-15% (or more) liquidity discount to the public company comparable multiples b/c shares/ownership in the private company is not as liquid
* You can't use a M&A Premiums Analysis or Future Share Price Analysis b/c a private company doesn't have a share price.
* Your valuations show Enterprise Value for the company as opposed to the Implied-per-Share Price as with public companies. You can still calculate Equity Value‚ but a "per-share-price" is meaningless for a private company.
* A DCF gets tricky b/c a private company doesn't have a market capitalization or beta - you would probably estimate WACC based on the public comps' WACC rather than trying to calculate it yourself.
93
Let's say we're valuing a private company. Why might we discount the public company comparable multiples but not the precedent transaction multiples?
* There's no discount b/c with precedent transactions‚ you're acquiring the entire company - and once it's acquired‚ the shares immediately become illiquid.
* But shares (the ability to buy individual "pieces" of a company rather than the whole thing) can be either liquid (if it's public) or illiquid (if it's private)
* Since shares of public companies are always more liquid‚ you would discount public company comparable multiples to account for this.
94
Can you use private companies as part of your valuation?
Only in the context of precedent transactions: it would make no sense to include them for public company comparables or as part of the Cost of Equity or WACC calculation in a DCF b/c they are not public and therefore have no values for market cap or beta.
95
Walk me through an IPO valuation for a company that's about to public.
1. Unlike normal valuations‚ in an IPO valuation‚ we only care about public company comparables (we select them as we normally would).
2. Then‚ we decide on the most relevant multiple(s) to use and then estimate our company's Enterprise Value based on that (or Equity Value depending on the multiple).
3. Once we have the Enterprise Value‚ we work backwards to calculate Equity Value. We also have to account for the IPO proceeds in here (by adding them since we're working backwards‚ these proceeds are what the company receives in cash from the IPO)
4. Then we divide by the total number of shares (old and newly created) to get its per-share price. When people say "An IPO priced at..." this is what they're referring to.
96
How do you value banks and financial institutions differently from other companies?
For relative valuation‚ the methodologies (public comps and precedent transactions) are the same but the metrics and multiples are different
• The financial criteria consists of Assets‚ Loans‚ or Deposits rather than revenue or EBITDA
• You look at metrics like ROE‚ ROA‚ and Book Value and Tangible Book Value rather than Revenue‚ EBITDA‚ etc.
• You use multiples such as P/E‚ P/BV‚ P/TBV rather than EV/EBITDA
Rather than a traditional DCF‚ you use 2 different methodologies for intrinsic valuation:
• Dividend Discount Model (DDM): you sum up the PV of a bank's dividends in future years and then add it to the PV of the bank's terminal value‚ using based on a P/BV or P/TBV multiple
• Residual Income Model (Excess Returns Model): you take the bank's current BV and add the PV of the excess returns to that BV to value it. The "excess return" each yea is (ROE*BV) - (Cost of Equity*BV)‚ basically how much the returns exceeded your expectations.
• These methodologies and multiples are required b/c Interest is a critical component of a bank's revenue and because Debt is a "raw material" rather than just a financing source‚ also‚ banks' Book Values are usually very close to their market caps
97
Walk me through how we might value an oil & gas company and how it's different from a "standard" company.
Public comps and precedent transactions are similar‚ but:
• You might screen based on metrics like Proved Reserves or Daily Production
• You would also look at R/P (Proved Reserves / Last Year's Production)‚ EBITDAX and other industry specific multiples
• You could use a standard Unlevered DCF to value an oil & gas company as well‚ but it's more common to see a Net Asset Value (NAV) Model‚ where you take the company's Proved Reserves‚ assume they produce revenue until depletion‚ assign a cost to the production in each year‚ and take the PV of those cash flows to value the company.
• There are other complications: oil & gas companies are cyclical and have no control over prices they receive‚ companies use either "full-cost accounting" or "successful efforts accounting" and treat the exploration expense differently according to that
98
Walk me through how you would value a REIT and how it differs from a "normal" company.
Similar to energy‚ real estate is asset-intensive and a company's value depends on how much cash flow specific properties generate.
• You look at Price / FFO per Share (Funds from Operations) and Price / AFFO per Share (Adj. FFO)‚ which add back depreciation and undo gains/losses on property sales.
• A Net Asset Value (NAV) model is the most common intrinsic valuation methodology‚ you assign a cap rate to the company's projected NOI and multiply to get the value of its real estate‚ adjust and add its other assets‚ subtract liabilities and divide by its share count to get NAV per Share‚ and then compare that to its current share price.
• You value properties by dividing Net Operating Income (NOI = Property's Gross Income - Property Operating Expenses & Taxes) by the capitalization rate (based on market data)
• Replacement Valuation is more common b/c you can actually estimate the cost of buying new land and building new properties
• A DCF is still a DCF‚ but it flows from specific properties instead and it tends to be far less common than the NAV model.
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