Business valuation p3

BUSINESS
VALUATION

www.antonioalcocer.com
@antonioalcocer

WHAT IS THE
VALUE OF
A COMPANY?


THIS ONE MUST BE INFINITE


THIS ONE…


∞ = Infinite
^∞
∞


= Enteprise value [EV]

HEY!!!!
WHAT IS THE
VALUE OF A
COMPANY?


“But

in company’s valuation

we need

to calculate

the “intrinsic” or “fair value”

of the company’s equity

“updated”

based on its

future performance=

cashflows”

But before we start remember the 2nd GOLDEN RULE:

PRICE IS WHAT YOU PAY

[demmand falls in love with supply]

VALUE IS WHAT YOU GET www.antonioalcocer.com

[VALUATION METHODS USED]

1. fast 2. right
MULTIPLES DISCOUNTING CASH-FLOWS
PER Free-cashflows (FCFF)
Sales Equity cashflows (FCFE)
EBITDA Dividends
Others Other cash-flows

gross fine tune
past future
(*) I will not cover other valuation methods based: book value, adjusted book value, etc.
PER = Price Earning Ratio = Share Price in stock market / earnings per share

MULTIPLES VALUATION DISCOUNTING CASH-FLOWS

1. It is wrong
2. Does not consider time value of money
3. Based in “static” data: P&L
4. Based in past performance
5. Does not consider future cash-flows
6. Assumes future = present
7. But it is fast
8. And it is widely used by investors
9. Get a “rough” company value estimate 1. It is the right one method
2. Does consider time value of money
3. It is based in “dinamic” data:
4. Does consider future cash-flows
5. But it is a lot of work
6. Used to fine-tune the multiples valuation

5 minutes time 2 weeks time

I was captured by the dark side, and although I know it is WRONG…

…explain me the MULTIPLES VALUATION method

[MULTIPLES VALUATION] www.antonioalcocer.com

EV=ENTERPRISE VALUE [$5-9 millions]
Industry comparable multiple x Company’s metric

1. Choose a metric: EBITDA

2. Company’s EBITDA = $1 million

3. Company in the food & beverage industry (F&B)

4. Comparable purchasing transactions in F&B industry: 5-9 times

[DISCOUNTING CASH-FLOWS VALUATION METHOD]

WHAT IS THE VALUE OF A COMPANY?


HOW much would you pay for a cow?

Depends on the future milk
that it can provide
[& not the milk that provided in the past]


What is the value of a company?

Depends on the future cash-flows it can generate
[you decide using either FCFF or FCFE_it’s up to you]


& the annual growing rate “g”(%)
of these future cash-flows

[Should not be greater than a economy’s GDP in the long run <3%]
[In the short term cash-flows growth can exceed long term trend]

Assuming the company will last forever [=infinite]


& the company’s financing structure: WACC

%E equity [41%]
Ke(%) profit expectations: 9.7%

%L banking debt [59%]
Kd(%) cost of debt 6.3%

How do I calculate Ke=shareholders’ profit expectations?

4.54% 6.18%

Ke=RF+B*(RM-RF)
9.7% 0.83

RF: Money invested at no risk (RF=10-years german bonds yield considered a risk free investment)
B*(RM-RF): Upside return/premium for investing in a company with specific risk
RM=Return of the stock market benchmarked = CAGR Ibex 35 in the 1995-2008 period = 10.72%
B=Company beta = sistematic risk of the company versus the market = Let’s assume 0,83. Beta calculation is biased and depends on the time period analysed

WACC & g calculations www.antonioalcocer.com

59% 28.2% 6.3% 41% 9.7%
WACC= %L*(1-t)*Kd + %E*Ke

WACC= 6,62%

g=2,5% (*)

(*) GDP for the European Union in the 1996-2008 period according to Central European Bank (2,2%). We will asume a g=2.5%
T=Effective corporate tax rate paid by the company. It is less than 30% due to fiscal benefits awarded from previous years
%L=proportion of banking debt %E=Proportion of equity

[DISCOUNTED CASH-FLOW METHOD SUMMARY]

FCFF
1. [Determine which cash-flows you want to use] FCFE

2. [Determine company’s 5-years future cash-flows (*)]

3. [From year “n+5”, future cash-flows grows at “g” rate (**)] <3%

@WACC if FCFF
4. [Calculate the NPV today of the infinite cash-flows] @Ke if FCFE

[Enteprise value= NPV of all infinite future cashflows @ WACC]

(*) The number of years range from 5 to 10, in terms of estimating the future P&L, balance sheet and company cash-flows.
More adecuate calculation should range 10 years.
(**) Future cash-flows from year n+5 growth as an infinite geometric progression with a “g” growing rate. This geometric progression with infinite terms is called RESIDUAL VALUE

EXAMPLE: Company free cash-flows [FCFF]

5-YEARS CASH-FLOWS ESTIMATION CASH-FLOWS GEOMETRIC PROGRESSION
X (1+g)^(n-3)

X (1+g)
X (1+g)
X (1+g)

195
190
185

181
g=2,5%
149
123
102
87

2011 2012E 2013E 2014E 2015E 2016E 2017E 2018E 2019E ………. INFINITE
TODAY

RESIDUAL VALUE

Data in millions of $
Please note that we assume the company will last forever, so from year 2017 onwards we have infinite cash-flows
The 5-years cashflows estimation must be done according to the mid-range business plan & investment/capex plan; and using the P&L & balance sheet & cashflow statements
After the 5th year, in 2017, we calculate cash-flows as a geometric progression increasing in a “g%”=2,5% every year the latest cash-flow. CFn=CFn-1*(1+g)
It can be demonstrated that the geometric progression with infinite cash-flows starting at 2017, equal a single cash-flow located in 2016 year and value=Cf2017/(WACC-g)
The infinite cash-flows from 2017 onwards are called RESIDUAL VALUE

EXAMPLE: Free cash-flows [FCFF] are discounted @ WACC

RESIDUAL VALUE

X (1+g)^(n-3)

X (1+g)
X (1+g)
X (1+g)

195
190
185

181
G=2,5%
149
123
102
87

2011 2012E 2013E 2014E 2015E 2016E 2017E 2018E 2019E ………. INFINITE
TODAY
5-YEARS CASH-FLOWS ESTIMATION CASH-FLOWS GEOMETRIC PROGRESSION

181*(1+2.5%)

87 102 123 149 181 6.6%-2.5%
NPV=EV=$3780= + + + + +
(1+6.6%)^1 (1+6.6%)^2 (1+6.6%)^3 (1+6.6%)^4 (1+6.6%)^5 (1+6.6%)^5
RESIDUAL VALUE


Have I done this?

COMPANY’S EV
$3780 millions


COMPANY’S ENTERPRISE VALUE=

What is the meaning?

“DYNAMIC”
BALANCE SHEET
“UPDATED”
DUE TO IMPACT OF
“STATIC” FUTURE CASH-FLOWS
BALANCE SHEET
TODAY - 2011

EO
E 41%

EV
$3780
mill. ??
L 59%

E: Equity www.antonioalcocer.com
L: Liability (net financial debt) = short term debt + long term debt – cash($)
EO = Company’s Estimated “fair value” of equity

[EO= fair value of company’s equities = 3780-400+150-50-200=$3280 mill.]

BALANCE SHEET
“UPDATED”

EO

EV
$3780 - Net Financial Debt -$400 mill.
mill. ??
+Shareholders’ right in other companies +$150 mill.

- Minority interests -$50 mill.
- Long-term pension liability -$200 mill.

EO=Intrinsic value or fair value of the company’s equity www.antonioalcocer.com
Shareholders’ rights in other companies are real cash inflows into the company due to ownership of other companies as minority stake
Net financial debt is the net financial liability position with banks. It is a cash-outflow assuming all the debt is paid.
Minority interests: It is a portion of the value of a company that it is own by “external” minority shareholders and it does not belongs to the company. Cash out-flow
Long term pension liability & other liabilities correspond to future cash-outflows to be paid by the company.

BUY?
Fair value>market value

SELL?
Fair value<market value


PRICE IS WHAT YOU PAY
MARKET CAP = $6000 mill.
# shares = 10 mill.

[demmand falls in love with supply]
www.antonioalcocer.com Market share price paid = $600

EO=$3280 mill.
# shares = 10 mill.

Equity fair/intrinsic value = $328
VALUE IS WHAT YOU GET

[CONCLUSION 1] www.antonioalcocer.com

I shouldn’t have bought new shares!!!
or
I better sell the ones I already own@$150

$328 $600
Fair value<market value

[CONCLUSION 2]

The fair value EO does not change
unless new inputs/info impact
the company’s future cashflows
overall picture & therefore EV


[CONCLUSION 3]

[95% of time_estimating 5-10 years cash-flows]

[5% estimating WACC & “g” rate (=residual value)]

…but
[Discounting cash-flows model is highly sensible to:]

WACC & “g”


SENSIBILITY ANALYSIS

Fair value per share in $ [WACC]
5% 6,62% 8%
2% 486,7 291,9 209,2

[g] 2,5% 586 328,7 229,4

3% 735 375,7 253,5


[CONCLUSION 4]

In company valuation, the most important issues to understand are:
1. Assumptions_How future cash-flows are calculated
2. Understand the risks associated to them in order they do not occur
3. Assume than in valuation we always obtain a price range
4. Company valuations can be highly manipulated by small changes in WACC & g
5. Use multiples valuation for a “rough” number & 5 minutes valuation
6. Use discounted cashflow for a “fine tuned” number & right calculation method


Thank you very much for you time!
Any comment, suggestion is more than welcome:
@antonioalcocer

Business valuation p3

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