McKinsey Valuation Flashcards
What is the formula for Value?
[NOPLAT(1-g/ROIC)]/[WACC-g]
What is NOPLAT?
Net Operating Profit Less Adjusted Taxes
What time period should NOPLAT be used for?
t=1
i.e. next year
What is P/E?
Price over earnings:
Price investors will pay for $1 of earning
P/E is roughly the same as NOPLAT, enjoying yourself?
Neither am I
What can be said for growth and value regarding ROIC and WACC?
If ROIC>WACC growth creates value.
If ROIC=WACC, equilibrium exists.
Is growth necessarily a good thing for the value of a company?
Not always, in some situations it can destroy value. It amplifies the affects of profit or loss. The greater the growth rate the greater the value gain/loss in the event of profitability or lack thereof
What is the key to value creation from the McKinsey Formula?
The spread between ROIC and WACC.
More and more people enter an industry, what happens to profitability typically?
It falls. Assuming that they entered because it was profitable the increased competition will reduce profitability,
Where in financial statements do you find:
A) NOPLAT
B) Invested Capital
C) Historic Growth Rates
A) Income statements
B) Balance sheet (operating assets less Operating liabilities)
C) Comparative Income Statements
In what 2 ways is ROIC computed?
1) NOPLAT/Invested cap
2) (1 - Tax Rate) x (price per unit - cost per unit)/Invested cap per unit
Porter’s Five Forces are:
1) Bargaining Power of Suppliers
2) Bargaining Power of Buyers
3) Threat of New Entrants
4) Threat of Substitutes
5) Industry Rivalry
Typically can estimate ROIC for a company/industry by analysing with Porters Five forces and common sense. Try this for Airlines and Pharmaceuticals
Airlines lots of people can enter, their suppliers have high bargaining power, easy for buyers to shop around therfore low ROIC. Conversely patents reduce the threat of new entrants for Pharma companies and therefore reduce the bargaining power of buyers.
What 5 factors help create a price premium?
1) Innovative Products
2) Quality
3) Brand (apple/marlboro)
4) Lock In -> cost to shift off your product (i.e. everyone uses office so pain in the arse to switch)
5) Price Discipline -> Industry where someone sets the price and everyone follows (avoiding price competition)
What are the 4 Cost and capital efficiency factors?
1) Innovative business process
2) Unique Resources
3) Economies of Scale (match the market)
4) Scalable Product or Process (google adds negligible cost with new customers)
3 Sustainability of ROIC factors?
1) Length of Product Life Cycle (Patent gives high return over it’s life)
2) persistence of competitive advantage
3) Potential for product renewal (i.e. keep adding new products to keep return high
What is Goodwill?
Goodwill is an accounting measure. If you take over another firm it rises.
Mean reversion applies to profits of companies over time. What bias helps this trend?
Survivorship bias. Companies doing poorly revert to the mean or die therefore they seem like they all pick up from means.
What is the main cause of growth? The second cause is what? What is the smallest cause?
Main: Performance of the industry (growing or in decline)
Second: Mergers and acquisitions
Small: Marketting
What types of growth create the most/least value? (3)
1) most value = create new product/market or grow existing market
2) average value = grow market share (M&A)
3) least val = incremental inovations/product promotion and pricing (competitors can retaliate quickly) or huge acquisitions.
What are the two key parts of the McKinsey Val formula (according to the lecture)?
ROIC and Growth
Three key points about ROIC are:
1) Driven by competitive adv
2) Industry is important but not an exclusive determinant
3) ROIC may persist
Three Key points about Growth are:
1) Driven by market growth
2) focus on $value per $additional revenue
3) sustaining growth is challenging
