Business Valuation

Question 1

Outline the asset based approach to valuation

Answer 1

NRV is minimum for seller
Replacement cost is maximum for buyer

Start with the shareholder’s funds and process adjustments in the question

Question 2

Issues with asset based valuation model

Answer 2

Ignores intangibles not on the balance sheet, therefore likely to undervalue

Question 3

Equations for the income based approach to valuation

Answer 3

Price = D0(1+g) / (Ke-g)
or
Price = D0 / yield

Question 4

Advantages and disadvantages of income based approaches

Answer 4

Useful for valuing a minortiy interest (as they cannot set dividend policy)

Assumes a constant predictable dividend growth, Gordon’s growth model

Ke must be estimated from a simmilar listed cpompany (non listed comapny: valuation bust be disciunted by 30% for non-marketability)

Question 5

Euqations for the earnings based approach to valuation

Answer 5

Price = Earnings * PE ratio
or
Price = EBITDA * EBITDA multiple - MV debt + cash

Question 6

Advantages and disadvantages of earnings based approaches

Answer 6

Useful for a majority interest, as they can set dividend policy, so theoretically can withdraw all earnings as dividends (subject to cash availability)

But…
Earnings can be erratic, and so this may be missleading if looked at for a point in time

Earnings can be manipulated

PE and EBITDA multiple must be esstimated based on a simmilar listed company

Question 7

Equations for cash based valuation approach

Answer 7

PV of BEFORE interest cash flows, discounted at the WACC - MV of debt
or
PV of AFTER interest cash flows to infinity, discounted at Ke

Question 8

Advantages and disadvantages of cash based approaches

Answer 8

Useful for valuing a majority interest

The msot technically superior model

BUT…
Required a detailed forecast cahs flows and discount rate

Question 9

Outline the SVA model

Answer 9

Shareholder value analysis

SLOWCAT

Sales
Length
Operating Margin
Working Capital
Cost of capital
Assets
Tax

Question 10

Outline financing an aquisition through cash

Answer 10

Bidder:

1. Problems getting the cash
2. No dilution of control

Target:

1. Spend straigth away
2. Certain sum
3. Cap gains tax
4. No ongoing interest in the business

Question 11

Outline financing an aquisition through shares

Answer 11

Bidder:

1. Less demand on cash
2. Issue costs (can be v high)
3. Dilution of control?

Target:
1. Ongoing interest in the company

Question 12

Outline financing an aquisition through loan stock

Answer 12

Bidder:

1. Obligation to pay interest
2. Garing increases
3. No dilution of control

Target:

1. Fixed income
2. Limited ongoing involvement