IBD - Valuations Flashcards
What is the difference between book value and market value of a public company?
Book value is the shareholders’ equity as listed on a company’s balance sheet; market value is the market capitalisation (# of shares x $/share) of a business.
How is the enterprise value of a business calculated?
Enterprise value is calculated by adding net debt to a company’s market value. Net debt is the company’s total debts (plus capital leases, certain convertible securities,
and non-controlling interests if any) less cash.
Why is it important to remove cash from net debt to arrive at an enterprise value of a business?
Removing cash leaves us with a value that represents the core operating assets of a business.
What is the difference between a market multiple and a purchase multiple?
A market multiple is a multiple based on the current valuation of a company; a purchase multiple is based on the price paid for a company.
Why is Market Value/EBITDA not a good comparable multiple?
Market value is the value of a business after lenders have been paid; EBITDA (before interest) is a metric before lenders have been paid.
What is the purpose of the discounted cash flow analysis?
The discounted cash flow analysis values a company based on its projected unlevered free cash flows and an estimated terminal value.
Why do we typically discount cash flows as opposed to net income?
Investors prefer cash flow as it is seen as a “truer” measure of output. Net income may show profitability, but net income profitability does not necessarily mean cash
generation. An investor would prefer to know cash output to best predict cash return. This is why we more commonly refer to a discounted cash flow analysis as opposed
to a discounted net income analysis.
What is one major advantage of the discounted cash flow analysis?
It is the most technical analysis of the three. It is based on the company’s cash flows from the model projections, as opposed to the comparable company analysis, which is mainly driven by market data.
What are a few major disadvantages of the discounted cash flow analysis?
a. Terminal value. Although the first projected years are based on modeled cash
flows, the terminal value accounts for a very significant portion of the overall valuation. That terminal value is based on a multiple or a perpetuity.
b. Model projections. The model projections could be inaccurate; they could be overstated or understated depending on what is driving the projections.
c. Discount rate. The discount rate may be difficult to estimate. We will go through standard techniques, but these standards do not apply in all situations.
What is the purpose of the comparable company analysis?
The comparable company analysis (“comps”) compares companies that are similar in product size, product, and geography to the company we are valuing.
What is one major advantage of the comparable company analysis?
It is the most current of all three analyses—it gives a market perspective. The comparable company analysis is based on the most recent stock prices and financials of
the company.
What are the major disadvantages of the comparable company analysis?
a. It may be difficult to find companies to compare. If the company has a unique
business model, is in a very “niche” industry, or is not the size of a public company, it may be difficult to find the right comparables.
b. The markets may be under- or overvalued. We could be in a market environment where the entire industry in overvalued or undervalued. If so, our analysis will be
flawed.
What is the purpose of the precedent transactions analysis?
The precedent transactions analysis assesses relative value by looking at multiples of historical transactions.
What is one major advantage of the precedent transactions analysis?
Purchase price includes a premium. This could be advantageous if we were looking to acquire a company. It would help us determine how much of a premium we would
need to consider in order to convince the owner or shareholders to hand over the company.
What are the major disadvantages of the precedent transactions analysis?
a. Historical analysis. Precedent transactions by definition are historical transactions. The analysis may be irrelevant if we are in a completely different economic environment.
b. Difficult to find relevant transactions. Especially in an environment where there are not many acquisitions, it may not be possible to find acquisitions similar to the one we are analyzing.
c. Difficult to get data. Even if we do find relevant transactions, it is not always easy to find the data to create the multiples.
