Pre-reading Session 4 (McKinsey c. 8-13) Flashcards
Koller, T. Goedhart, M. & Wessels, D. (2020).Valuation: Measuring and Managing the Value of Companies, 7th edition, John Wiley and Sons (New Jersey), ISBN: 978-1-119-61088-5. Chapters8, 9, 11,12 and 13.
What are increasing returns to scale?
Each additional investment generates a higher return, which in increases overall ROIC.
What is the structure-conduct-performance (SCP) framework?
According to this framework, the structure of an industry influences the conduct of the competitors, which in turn drives the performance of the companies in the industry.
What are the two main sources for an competitive advantage?
Price premium and Cost & Capital efficiency
What are the five sources of price premiums?
as sources of competitive advantage
- Innovative Products
- Quality
- Brand
- Customer Lock-in
- Rational Price-Discipline
What are the four sources of cost and capital efficiency advantages?
as sources of competitive advantage
- Innovative Business Method
- Unique Resources
- Economies of Scale
- Scalable Product or Process
What is the difference between cost and capital efficiency?
Cost efficiency is the ability to deliver products and services at a lower cost than the competition.
Capital efficiency is about delivering more products per dollar of invested capital than competitors
What does sustaining a ROIC depend on?
- Length of Product Lifecycle
- Length of its Competitive Advantage
- Potential for Renewing Business and Products
What is the formula for ROIC and what is the per unit version?
ROIC = NOPAT / Invested Capital
ROIC per unit = (1-t) x ([price per unit-cost per unit]/invested capital per unit)
What are three drivers of revenue growth? (in order of importance)
- Portfolio Momentum (organic growth due to overall expansion)
- Market Share Performance (organic growth by winning market share)
- M&A (inorganic growth)
What are the three types of growth that add above average value?
- Create new markets through new products
- Convince existing customers to buy more of a product
- Attract new customers to the market
Why is DCF a favorite method of practisioners to value a company?
It relies on the cashflow out of the company rather than on accounting-based earnings (economic profit).
When are WACC based models best used?
When the company maintains a relatively stable debt-to-value ratio
What are the four steps of the enterprise DCF method?
- Discount FCF at WACC
- Identify and value nonoperating assets
- Identify and value debt and other nonequity claims
- Subtract the value of debt and other nonequity claims from EV to get to the equity value.
What is free cash flow
Cashflow generated by the company’s operations less any reinvestment back into te business.
What is invested capital and net operating profit after taxes (NOPAT)
IC: represents the investor capital required to fund operations, without distinguishing how the capital is financed.
NOPAT: represents the total after-tax operating income generated by the company’s invested capital available to all investors.
How do you calculate ‘return on invested capital’ (ROIC)
NOPAT/Invested Capital
How do you calculate ‘free cashflow’ (FCF)
FCF = NOPAT + Noncash Operating Expenses - Investment in Invested Capital
Differentiate between NOPAT and Net Income
Net Income is income generated for equity holders only, NOPAT considers all investors.
What is another way of thinking about ‘free cash flow’
It can be thought of as the after-tax cash flow that would be generated if the company held only core operating assets and financed the business entirely with equity
