Transcript Business valuation: Relative valuation methods – Issues

Business valuation: Relative
valuation methods – Issues and
challenges
Latha S Chari
What we will cover?
Basic valuation concepts
 Purpose of valuation
 Methods of valuation – Trading
comparables, Transaction comparables
and DCF method of valuation using MS
excel financial model

Valuation: Meaning, Concept
Meaning: ascertaining value – real,
intangible and financial assets
 Value – Price
 Value differs based on Purpose/Utility:
Trading value (Value without control,
value of minority interest)
and Transaction value (Value with
control)
 Value differs with time

Merger/Acquisition
Buyback of shares
Demerger
Why
Valuation ?
Test impairment
IPO/FPO
Private placement
Sale/Disinvestment
Valuation of Business Vs. Value
of Equity
Value of the
operational
business i.e
Enterprise
Value
-
Value of
debt (less
cash)
=
Value of
Equity
Bondholder value
Shareholder value
Enterprise value
(Value of Business)
EV & Balance Sheet - a
comprehensive picture
Cash +
 Cash
equivalents
+
 Non
controlled
Investment
s+
 Non-core
assets +
 Enterprise
value (net
operating
assets: EV)
Financial
InvestMents, Invt
in associates
Land
banks
Debt (MV)
 Preference
Shares
 Minority
interest (MV
–PE)


-
=

Ordinary Equity
value
Valuation
Methods
Asset based
Earning based
Market price
based
DDM
Net Asset
DCF
Replacement
value
Economic
profit
Liquidation value
EV
Multiples
Market
Price/Price
multiples
Market
Comparables /
transaction
multiple
Asset based – Net assets
Method

Net Asset = Total Assets (other than
miscellaneous expenses and losses) –
Total External Liabilities

Net assets = Shareholders funds(other
than revaluation reserve) – Miscellaneous
expenses and losses
Asset based method –
Replacement value, Liquidation
value

Replacement value = Replacement cost of
assets - External liabilities

Liquidation value = Sale value of assets –
External liabilities.
Earning based Approach
Dividend Discount models – Walter and
Gorden models, One stage, two stage
models single period and perpetuity
models.
 Future expected dividends are discounted
at opportunity cost of capital to investors
to arrive a value of equity.

Earnings based approach - DCF
Earning capacity of operating assets - Free
cash flow to firm or Free cash flow to
equity is ascertained. The same is
discounted at CC to arrive at value of
operating assets
 Earning capacity of operating assets is
arrived at using Economic profit or
concept of EVA and the same is
discounted to arrive at value of operating
assets

Multiple based method


Based on linking VALUE/PRICE with its DRIVERS.
Multiple ratio of what you pay/what you get.
Earnings
Enterprise
value or
Price of
equity
• EBIT
• EBITDA
Revenue
• Sales
• Sales growth
• Employees
• Production
Non
Financial
quantity etc.
Most popular multiples
Price earnings (PE) : Ratio of price per
share and earnings per share.
 Price to book value (PBV): ratio of price
per share to book value per share
 Price to Sales(PS): ratio of price per share
to sales value per share.
 By replacing price by enterprise value we
can get 3 more ratios, where
EV = Market value of equity + market
value of debt - cash

Understanding the multiples
Define – understand its calculation
 Describe – cross section distribution
 Analyse – drivers of the multiples
 Apply – easily said than done

Understanding multiples – an example
Mean multiples of the pharmaceutical sector for the period 200503-201003
PE, EV_PBIT AND EV_PBITDA fall within a range of 13-25 for the sector.
However, PBV, Mcap_sales and EV_sales are distributed in a range of
3.25-4.97. In the last four quarters from 2009-03 to 2010-03 the entire
sectors mean multiples have shown consistently increasing trend
Steps in relative valuation
Peer Group
Financial and
non financial
data
Arrive at
benchmark
multiple and
value
• Arrive at comparable companies
• (Size, nature, growth, margin, risk)
• Annual reports, direct discussion with the company
• Share price data, market and industry data
• Choice of multiple – PE, PBV, P-sales, EV/EBIT,
EV/EBITDA, EV/Sales, EV/tonne, EV/subscriber etc.
• Mean, median and harmonic mean, or regressions.
Relative valuation an example – Basic facts
Company
Name
YYYYMM
BSE_Close_Pr
ice
Astrazeneca
Astrazeneca
Pharma India
Abbott India Pharma India
Abbott India Ltd Ltd
Lupin Ltd Merck Ltd Ltd
Ltd
Lupin Ltd Merck Ltd
200502
200503
200503
200503
201002
201003
201003
201003
645.25
294.21
55.31
428.65
904.4
860.6
324.91
621.95
Quarter
Period
Sales
PBIDT
PBIT
PAT
Yearly_EPS
Market_Cap
1
417.06
94.55
79.35
60.17
43.1
985.94
1
196.0908
50.3198
45.8146
28.38
11.352
735.53
4
1185.92
145.79
85.27
84.36
4.1
2220.14
1
367.1156
108.2103
99.6353
66.0118
38.96
722.76
1
821
122.48
113.27
75.24
55.01
1237.22
1
414.1109
86.4423
80.4515
52.9568
21.18
2151.50
4
3641.08
818.61
708.66
648.93
15.108
14448.75
1
480.4059
113.0119
105.388
72.2348
43.41
1032.40
NO OF SHARES
EV_calculated
BookValue
DEBT
ROE
Margin
1.53
988.13
123.22
2.19
0.3196
0.19
2.50
735.53
38.21
0
0.2970
0.23
40.14
2660.78
24.94
440.64
0.1686
0.07
1.69
722.76
147.2
0
0.2660
0.27
1.37
1237.22
198.51
0
0.2771
0.14
2.50
2151.50
57.81
0
0.3664
0.19
44.47
15355.56
56.90
906.81
0.2564
0.19
1.66
1032.40
281.50
0
0.1546
0.22
Relative valuation an example – Basic facts
BSE_Close
Company Name YYYYMM _Price PE
Abbott India Ltd 201002 904.4
Astrazeneca Pharma India
201003Ltd 860.6
Lupin Ltd
201003 324.91
Merck Ltd
201003 621.95
Median
Mean
harmonic
Mcap_sale
PBV s
EV_sales EV_PBIDT EV_PBIT
16.44 4.56 1.51 1.51 10.10 10.92
40.63 14.89 5.20 5.20 24.89 26.74
21.51 5.71 3.97 4.22 18.76 21.67
14.33 2.21 2.15 2.15 9.14 9.80
18.97 5.13 3.06 3.18 14.43 16.30
23.23 6.84 3.20 3.27 15.72 17.28
19.83 4.37 2.54 2.57 13.25 14.43
Relative valuation - projections
Company Name
Lupin Ltd
BSE_Close_P
YYYYMM rice actual Yearly_EPS BookValue Sales PBIDT
PBIT
201103
415.35
18.158
70.6558 4420.86
975.6 845.63
Company Name
Lupin Ltd Median
Lupin Ltd - Mean
YYYYMM PE
PBV
Mcap_sales EV_sales EV_PBIDT EV_PBIT
201103 344.5160182 362.6654696 304.0658063 296.0536 296.1737516 289.4812687
201103 421.7490029 483.3298783 318.608818 304.40696 324.5031637 308.2489189
Lupin Market data as on 31 March 2011
Open 417, H- 422, L- 409, C - 405
Lupin Market data as on 13 Jan, 2012:
Lupin NSE: 52 week high – Rs.494, 52 week low – Rs.393
Issues & Challenges
How to arrive at comparable companies?
 Which multiple to use for valuation –
company specific.
 How to arrive at the benchmark multiple
for the next period?
 Dynamic nature of drivers.
 Weak market efficiency

Thank You.