advanced private equity valuations

8/8/2019 Advanced Private Equity Valuations

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Introduction to

Advanced Private EquityValuations

Services for:

Investment Professionalsand Equity Analysts


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comprehensive real-time market data, fundamentalinformation, powerful analytics, most relevant stories and upto date financial news for private investors and marketprofessionals and in Vietnam via our user friendly andcustomisable web-based portal. We help investors madeinformed and potentially profitable investing decisions.

We have created standardised and reliable and very costeffective market data solutions for securities firms andinvestment management firms in Vietnam.

Our senior management team in combination, have over 35years of extensive and diverse experience in Investment andTechnology, Banking, Corporate Finance with top Wall Street

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StoxExperts Page 3www.stox.vn

Overview

SummaryOther valuation techniques

Discounted cash flow approach

Earnings multiple approachKey concepts

Introduction & Objectives

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Introduction & Objectives

At the end of this presentation you will be able to:

Understand key valuation concepts (eg enterprise vs equity value)

Understand the main valuation techniques Earnings multiple approach

Discounted cash flow

Perform a simple valuation

Understand the link between the revised BVCA guidelines and IFRS


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Key Concepts

Oxford dictionary definition

amount of money or goods for which a thing can be exchanged in an openmarket

Interpretation

the value of the right to receive the future cash flows, having regard for therisks surrounding the receipt of those cash flows

Valuation is this process of estimating this amount of money or goods

Valuation is subjective

What is value?


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Equity value vs enterprise value

Extract from a Balance Sheet

Net assets x

Shareholders funds x

Add back: Net debt x

Equity (or company) value

Enterprise (or business) value

Key Concepts


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What is net debt?

Example calculationShort-term borrowings (x)

Long-term borrowings (x)

Convertible notes (x)Cash and deposits x

Net (Debt) / Cash (x)

Ensure rolled-up

interest is included

Watch out forseasonal debt

Key Concepts


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Summary of equity value and enterprise value

Enterprise value (or business value) is the value of the entire business operationsand is based on the cash flows attributable to both the debt providers and equityproviders (shareholders)

Equity value (or market capitalisation for a public company) is the value of theprofits and cash flows attributable to the ordinary shareholders

Enterprise value = equity value + net debt

Similarly

Equity value = enterprise value net debt

Key Concepts


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We tend to value on a market value basis

The price which equity might reasonably be expected to obtain in money or moneysworth, in a sale between a willing buyer and a willing seller, each of whom is

deemed to be acting for self interest and gain and both of whom are equally wellinformed about the market in which the company operates

Other valuation bases include

Fair value

Book value

Liquidation value

Economic value

Replacement value

Key Concepts


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Price does not necessarily equal value

Price someone is prepared to pay reflects among other things

Value to them (ie why are they buying?) Their resources

Their attitudes/desires

Presence of other bidders

Negotiating skills of the parties involved

Key Concepts


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Earnings multiple approach

Earnings MultipleApproach


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What are the different multiples?


Earnings multiple Derived value

PAT (PE multiple)

EBITDAEBIT

Historic vs prospective multiples

Enterprise value

Equity value

Also turnover multiple


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What are the key issues?

Selection of an appropriate multiple

Estimation of maintainable earnings Selection of a reasonable (comparable company) multiple



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Selection of an appropriate multiple

Different multiples eliminate the impact of

Different capital structures Different taxation regimes

Different accounting policies (eg unusual depreciation rates)

Also profitability no profits likely to use turnover multiple



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Estimation of maintainable earnings

Normalised base from which a companys profits are expected to vary and grow inthe future

Look at the historical track record

Over last 3 to 5 years

Adjust for exceptional / non recurring items

Exclude income / costs relating to surplus assets Consistency in accounting policies

Consider related party issues

Past can only be a guide for the future What are future prospects?



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Criteria for choosing comparable companies

Same industry/product/revenue stream Similar profit record

Close in terms of size, turnover, dividend cover etc

Not be in a special situation Have similar prospects

Selection of a reasonable (comparable company) multiple

Comparable companies do not need to be identical but should have anumber of strong similarities

Issue with EVCA averaging always try and select the mostcomparable company

Ideally select around 4-5 companies



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Sources of multiples

Listed companies vs transactions

Date of valuation

Availability of information

Minority value

Impact of synergies



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What sources of information can we use?

Data required Possible source

Financial information

Broker forecast

Acquisitions data

Comparable companyselection

Industry sector

Consider the reliability of the source that you use and try to useconsistent sources for all multiples

Annual accounts from company web site, EdgarScan (US)Barra Global Estimates, Broker Reports

M&A database, Factiva, Press Search

Bloomberg, Datastream, Hoovers web site

FTSE Share Index



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Adjustments to earnings multiples

Adjustments are often required to reflect the following:

Premium for controlling shareholding Growth

Lack of size and diversification

Lack of stock market quote

Transfer restrictions



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Industry valuation benchmarks

Industry/Business Valuation rule of thumb

European mobile phone

Fund managers

Agency business

Hotels

Undertakers

Internet

Underlying assumption that the profile of company being valuedequals the industry norm

Value per subscriber (eg 2,000 - 2,500)Percentage of funds under management (eg 1% - 5%)

Percentage of commission earnings

Value per room (eg 50,000 - 250,000)

Value per funeral

Value per hit

Use as a cross-check to a primary method of valuation



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Case study


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Exercise 1: Calculate the comparable company multiple

Objective - calculate the historic market multiples for XZY Ltd

Specifically - calculate using the template provided and XZY Ltds fullyear results

turnover multiple

EBITDA multiple

EBIT multiple

PE multiple



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Exercise 2: Extract summary financial information on ABC Ltd

Objective - Estimate maintainable earnings for the year ended30th June 2003

Specifically - calculate using the accounts provided

turnover

EBITDA

EBIT

profit after tax



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Exercise 3: Select a multiple for ABC Ltd and estimate the equity value

Objective - Estimate the value of ABC Ltd with reference to the marketmultiples

Step 1 - Select a turnover, EBITDA, EBIT and PE multiple with reference tothe other comparable companies

Step 2 - Based on the financial information provided for ABC Ltd calculatednet debt

Step 3 - Use the multiples selected to calculated the equity value for ABCLtd



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Discounted Cashflow Approach

(DCF)


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The DCF approach is based on the economic definition of value

The value of an asset is the present value of its future earningsstream

DCF gives the net present value of expected cash flows

Therefore its important to

Define the asset

Assess the future earnings stream

Discount future earnings at an appropriate rate

The earnings multiple is a short cut to the DCF approach

In theory both should produce the same result



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Define the asset to be valued

Ensure cash flow stream matches the asset to be valued

Whole business valuation Subsidiary/business unit valuation



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Assess the future earnings stream

What type of cash flows should we assess

How long into the future should we assess the earnings stream What should we consider when modelling cash flows



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What type of cash flows should we assess

There are two types of cash flow

Cash flow before debt servicing (free cash flow) Cash flow after debt servicing (cash flow to equity investors)

Generally

Business values are assessed using pre-debt servicing cash flows (freecash flows)


Di d h fl h


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Free cash flow vs cash flow to equity investors (equity cash flow)

Free cash flows Equity cash flows

Profit before interest and tax xx xx

Add: depreciation and amortisation Yes Yes

other non cash expenses Yes Yes

decreases in working capital Yes Yes

Less: capital expenditure Yes Yes

increases in wo rking capital Yes Yes

interest costs No Yes

tax charge Yes (unlevered) Yes (levered)

principal debt repayments No Yes

Add: new debt issues No Yes

xx xx


Di t d h fl h


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How long into the future should we assess the earnings stream

It is impossible to forecast earnings into perpetuity

Forecast period should last until the business has reached a steady stateof operations

Typical indicators of steady state of operations include

Constant profit margins

Constant growth (in line with inflation)

The terminal value

Typically use a cash flow perpetuity basis (Gordon Growth)


Di t d h fl h


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What should we consider when modelling cash flows

Key issues to consider include

Reasonableness of cash flow forecasts/assumptions

Key sensitivities


Di t d h fl h


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Discount future earnings at an appropriate rate

Discount rate is defined as:the required rate of return which an investor would apply to the cash flows toascertain the value of the operation/project taking account of the risk of specificinvestment

Discount rates- Cost of equity

- Weighted average cost of

capital (WACC)




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Selection of the discount rates

Depends on the definition of the cash flows being discounted

Cash flow Free cash flow

Discount rate WACCValue Enterprise value

Less debt = Equity value

Cash flow Equity cash flow

Discount rate Cost of equityValue Equity value




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Case study

DCF Case Study


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Exercise: review the DCF report

Objective - Identify issues / errors within the attached DCFreport

Specifically - Look through the report and

highlight any errors within the commentary

identify areas of concern / issues with the model and

assumptions

DCF Case Study



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Discounted cash flow calculation

Company Name: Target Valuation Date 30-Sep-01

Weighted Average Cost of capital (WACC) 8% 2002 2003 2004 2005 2006 Terminal Year

Perpetual growth rate (g) 2.5% m m m m m m

Forecast Forecast Forecast Forecast Forecast

EBIT 90 95 102 109 118 125

Add: Depreciation 50 60 70 70 70 70

Less: Capex (100) (120) (110) (90) (80) (75)

Tax (22) (23) (24) (26) (28) (30)

Adjust:(increase)/decrease inworking capital (5) (7) (11) (12) (12) (15)

Free Cash Flow 13 5 27 51 68 75

Mid Point Factor (n) 0.5 1.5 2.5 3.5 4.5

Discount Factor (R) 0.962 0.891 0.825 0.764 0.707

PV of Free Cash Flows 13 5 22 39 48

Terminal Cash Flow PV of total explicit cashflows 126.1

A Terminal Year Cash Flow 75 Plus:PV of terminal cash flow 964

B Terminal Multiple (1/WACC-g) 18.2x Equals: Enterprise Value 1,091

C Terminal Value (A * B) 1,364

D Terminal Year PV Factor 0.707 Less: (Net Debt)/ cash (169)

Present Value of terminal cashflow (C * D) 964

Equals: Equity Value 922

Year ended 30 September

Discount factor formula

R = 1/(1+WACC)n


Other Valuation Techniques


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Other ValuationTechniques



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Price of recent investment

Best indication of value

Question over the length of time for recentNet assets approach

Value is a function of net assets

Appropriate for businesses where value is driven by the assets Banks (multiple of book)

Investment Trusts (NAV)

Property companies (NAV) Also appropriate for private equity fund of funds


Summary


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In this session we have covered the following topics:

The key valuation concepts (eg enterprise vs equity value)

The main valuation techniques Earnings multiple approach

Discounted cash flow

Summary

www.stox.vn


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Stox.vn: One Stop Financial Portal is a trademark of StoxPlusFinancial Media Corporation offering a complete suite of

comprehensive real-time market data, fundamentalinformation, powerful analytics, most relevant stories and upto date financial news for private investors and marketprofessionals and in Vietnam via our user friendly andcustomisable web-based portal. We help investors madeinformed and potentially profitable investing decisions.

We have created standardised and reliable and very cost

effective market data solutions for securities firms andinvestment management firms in Vietnam.

Our senior management team in combination, have over 35years of extensive and diverse experience in Investment andTechnology, Banking, Corporate Finance with top Wall Streetinvestment bank and assets managers and financial consulting

firms in the United Kingdom, Switzerland, Australia andVietnam. They hold two MBAs, one CFA and two ACCAqualifications.

About Stox.vn

Stox.vn: One Stop Financial Portal l mt thng hiu caHng Truyn thng Ti chnh StoxPlus, thng qua cng stox.vn

chuyn cung cp cc sn phm thng tin a chiu v chuynsu v tnh hnh ti chnh doanh nghip, d liu th trng,bo co phn tch chng khon chuyn su, cng c qun lu t ti u, cng cc s kin v tin tc v cng quan trngcho nh u t c nhn v cc chuyn gia ti Vit nam. Snphm em n cho qu v thng qua web based portal, c giaodin thn thin, d s dng v hon ton c th iu chnhtheo mong mun ca qu v.

Vi cc cng ty chng khon v hng qun l qu, StoxPluscung cp gii php thng tin c chun ha cao, ng tincy, kp thi v hiu qu.

Ban lnh o ca StoxPlus l cc chuyn gia c bng CFA,ACCA, MBA v c b dy trn 35 nm kinh nghim su trong

lnh vc u t, Ngn hng, Phn tch Ti chnh v Cng nght Trung tm Ti chnh Lun n, Anh Quc, Thy S, c vng Nam .

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