Week 6 Flashcards
what is the definition + examples of intangibles?
An asset that we can neither see nor feel. Broad range of intangible assets:
* Franchises, copyrights and trademarks
* Patents
* Brand names
* Good management
* Loyal and well-trained workforce
* Technological know-how
Name 2 solutions for measuring intangibles
- Premium approach: Add a premium for companies with substantial intangible assets. The magnitude of the premium is usually subjective and left to the analyst to estimate for individual companies (but: double counting)
- Book Value approach: Force accountants to come up with reasonable values for intangible assets and show them as assets on the balance sheet (but: a lot of weight on accountant’s judgement)
Assume you are able to purchase the exclusive rights to Monster Magnet’s music from Napalm Records. To estimate the value of the copyright, assume Monster Magnet’s music is expected to generate $150k in after-tax cash flows for the next five years. These are the cash flows after royalties, promotional expenses and production costs. 40% of these cash flows are from concert tickets, which are considered to have a predictable and stable cash flow and have a discount rate of 7%. The remaining 60% are from record sales and streaming and is much more volatile, the cost of capital is 10%. What is the value of the copyright?
587.18
Name 3 methods to value Firm-wide Intangibles
Capital Invested
* What a firm has invested in the asset over time. E.g. brand name: capitalize advertising expenditures over time
Discounted Cash Flow Valuation
* Calculate expected incremental cash flows generated by the intangible asset
Relative Valuation
* Compare market values of similar companies without the intangible
Coca Cola spent $3.50 bln, $3.98 bln, $4.00 bln and $3.96 bln in the years 2014-2017 in advertising for to build its brand. If advertising expenses are amortized over 4 years, what is the value of the brand at the end of 2017?
9.8 bln
What are the 2 problems of a Expense Approach intangibles?
- Estimating the proportion of advertising that can be attributed to brand name building (or expertise, or lobbying for monopoly)
- Estimating the life of brand name as an asset
Alternative: Compare to firm without brand name
What is the value of control (intangible)?
Value of controlling a firm derives from the fact that you believe that you or someone else would operate the firm differently (and better) from the way it is operated currently
The expected value of control is the product of two variables:
* The change in value from changing the way a firm is operated
* The probability that this change will occur
Name 4 methods of changing the management
- Activist investors: Offer proposals for change at annual meetings
- Proxy contests: Investors who are unhappy with management try to get their nominees elected to the board of directors
- Forced CEO turnover: The board of directors forces out the CEO of a company and change top management
- Hostile acquisitions: If internal processes for management change fail, stockholders have to hope that another firm or outside investor will try to take over the firm (and change its management)
What is synergy and what are examples
Synergy: Target firm controls a specialized resource that becomes more valuable if combined with the bidding firm’s resources
The specialized resource will vary depending upon the merger:
* Horizontal mergers: Economies of scale (cost reduction) or market power (profit margins)
* Vertical integration: Controlling the chain of production (cost reduction, reduce hold-up)
* Functional integration: When a firm with strengths in one functional area acquires another firm with strengths in a different functional area, the potential synergy gains arise from exploiting the strengths in these areas
What are the 4 steps of calculating synergy?
- Step 1: Value companies independently (discount expected cash flows to each firm at the weighted average cost of capital for that firm)
- Step 2: Value of the combined firm, with no synergy, is obtained by adding the values obtained for each firm in the first step
- Step 3: Value combined firm, where effects of synergy are built into expected growth rates and cash flows
- Step 4: 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑆𝑦𝑛𝑒𝑟𝑔𝑦 = 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑡ℎ𝑒 𝑐𝑜𝑚𝑏𝑖𝑛𝑒𝑑 𝑓𝑖𝑟𝑚,𝑤𝑖𝑡ℎ 𝑠𝑦𝑛𝑒𝑟𝑔𝑦 − 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑡ℎ𝑒 𝑐𝑜𝑚𝑏𝑖𝑛𝑒𝑑 𝑓𝑖𝑟𝑚,𝑤𝑖𝑡ℎ𝑜𝑢𝑡 𝑠𝑦𝑛𝑒𝑟𝑔𝑦
What are the 4 sources of financial synergy?
- Diversification: Does not create wealth for two publicly traded firms with diversified stockholders. Could create wealth for private firms or closely held publicly traded firms
- Cash Slack: When a firm with significant excess cash acquires a firm with great projects but insufficient capital, the combination can create value
- Tax Benefits: The tax paid by two firms combined together may be lower than the taxes paid by them as individual firms
- Debt Capacity: By combining two firms, each of which has little or no capacity to carry debt, it is possible to create a firm that may have the capacity to borrow money and create value
Name 5 reasons why synergy might not be obtained
- Valuing just the target company for synergy (You have to value the combined firm)
- Not thinking about the costs of delivering synergy and the timing of gains
- Underestimating the difficulty of getting two organizations (with different cultures) to work together
- Failure to plan for synergy. Synergy does not show up by accident
- Failure to hold anyone responsible for delivering the synergy
