Week 1 Corporate Finance: Nelson Paper Products (Case 1) + Valuation Methods compared
Lecture: Valuation
➔ Valuation is always biased + subjective (based on situation and incentives)
➔ Payoff of valuation is higher with a range/interval rather than a precise value
➔ The easier to interpret (and remodel) a valuation model, the better (simpler models > complex models)
➔ If markets are efficient, economic value = book value
➔ Economic value
Uses – Sources Balance Sheet
Sources (right side): sources of money =
debt + paid-in equity/retained earnings
Uses (left side): operations + working
capital, investments, cash holdings (excess
cash)
Economic value ~ what (current and future)
benefits assets have
Approaches to value a company
1) Net Asset Approach
Total Assets minus Total Liabilities
Problem: accounting-based values, often very different from market (or current) value
Solutions/Adjustments:
(1) Adjusted Book Value:
re-value tangible assets (compare purchase price and depreciation with current market value)
(2) Liquidation Value: (= Floor Value)
“what would I get if I liquidated everything today?” – this also considers costs of a quick sale
(3) Replacement Value:
Current costs of reproducing/rebuild the tangible assets from scratch right now
,2) Multiples (or Relatives) Approach
Multiple of earnings, EBIT, Sales or book values (industry-average or historic)
EBIT = earning power without effect of financing the company
i. Historical Earnings
ii. Future Earnings under Present Ownerships
iii. Future Earnings under New Ownerships
2 kinds of multiples
(1) Trading Multiples
a. P/E
b. Equity Value/Sales or Equity Value/EBITDA
c. Price/Book = market price per share / book value per share
(2) Transaction Multiples
Higher than trading multiples because it concerns acquisitions of similar companies
Limitations: static measures (every offer/acquisition is different)
Equity vs. Firm Valuation
Discount CF @
equity cost to find
Equity Value
Discount CF @ wacc
to find Enterprise
Value
3) Discounted Dividends Approach
PV of company = perpetuity of cash flows (dividends)
𝐶𝐹𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝐶𝐹 𝑖𝑛 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦 ) =
𝑟
𝐶𝐹1
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝑔𝑟𝑜𝑤𝑖𝑛𝑔 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦) =
𝑟−𝑔
, 𝐶 1
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝑁 𝑝𝑒𝑟𝑖𝑜𝑑𝑠) = (1 − )
𝑟 (1 + 𝑟)𝑁
𝐶 1+𝑔 𝑁
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝐶 𝑔𝑟𝑜𝑤𝑖𝑛𝑔 𝑏𝑦 𝑔 𝑓𝑜𝑟 𝑁 𝑝𝑒𝑟𝑖𝑜𝑑𝑠) = (1 − ( ) )
𝑟−𝑔 1+𝑟
𝑁
𝐷𝑖𝑣 1 + 𝑔1 1 𝐷𝑖𝑣 𝑁 (1 + 𝑔2
𝑃𝑉(𝑔𝑟𝑜𝑤𝑖𝑛𝑔𝑎𝑛𝑛𝑢𝑖𝑡𝑦 + 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦𝑎𝑓𝑡𝑒𝑟𝑦𝑒𝑎𝑟𝑁) = (1 − ( ) ) + ∗ ( )
𝑟 − 𝑔1 1+𝑟 (1 + 𝑟)𝑁 𝑟 − 𝑔2
𝐷𝑖𝑣 𝑁 (1 + 𝑔2
𝑤ℎ𝑒𝑟𝑒 ( ) = 𝑇𝑒𝑟𝑚𝑖𝑛𝑎𝑙 𝑉𝑎𝑙𝑢𝑒
𝑟 − 𝑔2
𝐷𝑖𝑣1 1 + 𝑔1 𝑛 1 + 𝑔2 𝑛 (𝐷𝑖𝑣1 )
= 𝑃0 = ∗ (1 − ( ) )+( ) ∗
𝑟 − 𝑔1 1+𝑟 1+𝑟 (𝑟 − 𝑔2 )
Terminal Value after period n
Limitations:
1. If g > r (wacc) then discount model does not work
2. does not work with unstable payout pattern
Cash Flow Valuation Methods
Valuation always dependent on 2 main elements:
(1) Assessment of (incremental) future cash flow
(2) discount rate that reflects the risk involved
𝐶𝐹
𝑡
Basic: 𝑃𝑉 = ∑ (1+𝑟) 𝑡
𝐶𝐹𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
Perpetuity: 𝑃𝑉(𝐶𝐹 𝑖𝑛 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦 ) = 𝑟
𝐶𝐹
Constant Growth Perpetuity: 𝑃𝑉(𝑔𝑟𝑜𝑤𝑖𝑛𝑔 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦 ) = 𝑟−𝑔1
Changing growth rates (estimating cash flows for the first years and then constant (lower) growth perpetuity)
𝐶𝐹𝑡 𝐶𝐹𝑡
𝑃𝑉 = ∑ 𝑡
+ ( ) / (1 + 𝑟)𝑡
(1 + 𝑟) 𝑟 − 𝑔
Lecture: Valuation
➔ Valuation is always biased + subjective (based on situation and incentives)
➔ Payoff of valuation is higher with a range/interval rather than a precise value
➔ The easier to interpret (and remodel) a valuation model, the better (simpler models > complex models)
➔ If markets are efficient, economic value = book value
➔ Economic value
Uses – Sources Balance Sheet
Sources (right side): sources of money =
debt + paid-in equity/retained earnings
Uses (left side): operations + working
capital, investments, cash holdings (excess
cash)
Economic value ~ what (current and future)
benefits assets have
Approaches to value a company
1) Net Asset Approach
Total Assets minus Total Liabilities
Problem: accounting-based values, often very different from market (or current) value
Solutions/Adjustments:
(1) Adjusted Book Value:
re-value tangible assets (compare purchase price and depreciation with current market value)
(2) Liquidation Value: (= Floor Value)
“what would I get if I liquidated everything today?” – this also considers costs of a quick sale
(3) Replacement Value:
Current costs of reproducing/rebuild the tangible assets from scratch right now
,2) Multiples (or Relatives) Approach
Multiple of earnings, EBIT, Sales or book values (industry-average or historic)
EBIT = earning power without effect of financing the company
i. Historical Earnings
ii. Future Earnings under Present Ownerships
iii. Future Earnings under New Ownerships
2 kinds of multiples
(1) Trading Multiples
a. P/E
b. Equity Value/Sales or Equity Value/EBITDA
c. Price/Book = market price per share / book value per share
(2) Transaction Multiples
Higher than trading multiples because it concerns acquisitions of similar companies
Limitations: static measures (every offer/acquisition is different)
Equity vs. Firm Valuation
Discount CF @
equity cost to find
Equity Value
Discount CF @ wacc
to find Enterprise
Value
3) Discounted Dividends Approach
PV of company = perpetuity of cash flows (dividends)
𝐶𝐹𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝐶𝐹 𝑖𝑛 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦 ) =
𝑟
𝐶𝐹1
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝑔𝑟𝑜𝑤𝑖𝑛𝑔 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦) =
𝑟−𝑔
, 𝐶 1
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝑁 𝑝𝑒𝑟𝑖𝑜𝑑𝑠) = (1 − )
𝑟 (1 + 𝑟)𝑁
𝐶 1+𝑔 𝑁
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑉𝑎𝑙𝑢𝑒 𝑃𝑉(𝐶 𝑔𝑟𝑜𝑤𝑖𝑛𝑔 𝑏𝑦 𝑔 𝑓𝑜𝑟 𝑁 𝑝𝑒𝑟𝑖𝑜𝑑𝑠) = (1 − ( ) )
𝑟−𝑔 1+𝑟
𝑁
𝐷𝑖𝑣 1 + 𝑔1 1 𝐷𝑖𝑣 𝑁 (1 + 𝑔2
𝑃𝑉(𝑔𝑟𝑜𝑤𝑖𝑛𝑔𝑎𝑛𝑛𝑢𝑖𝑡𝑦 + 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦𝑎𝑓𝑡𝑒𝑟𝑦𝑒𝑎𝑟𝑁) = (1 − ( ) ) + ∗ ( )
𝑟 − 𝑔1 1+𝑟 (1 + 𝑟)𝑁 𝑟 − 𝑔2
𝐷𝑖𝑣 𝑁 (1 + 𝑔2
𝑤ℎ𝑒𝑟𝑒 ( ) = 𝑇𝑒𝑟𝑚𝑖𝑛𝑎𝑙 𝑉𝑎𝑙𝑢𝑒
𝑟 − 𝑔2
𝐷𝑖𝑣1 1 + 𝑔1 𝑛 1 + 𝑔2 𝑛 (𝐷𝑖𝑣1 )
= 𝑃0 = ∗ (1 − ( ) )+( ) ∗
𝑟 − 𝑔1 1+𝑟 1+𝑟 (𝑟 − 𝑔2 )
Terminal Value after period n
Limitations:
1. If g > r (wacc) then discount model does not work
2. does not work with unstable payout pattern
Cash Flow Valuation Methods
Valuation always dependent on 2 main elements:
(1) Assessment of (incremental) future cash flow
(2) discount rate that reflects the risk involved
𝐶𝐹
𝑡
Basic: 𝑃𝑉 = ∑ (1+𝑟) 𝑡
𝐶𝐹𝑝𝑒𝑟 𝑦𝑒𝑎𝑟
Perpetuity: 𝑃𝑉(𝐶𝐹 𝑖𝑛 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦 ) = 𝑟
𝐶𝐹
Constant Growth Perpetuity: 𝑃𝑉(𝑔𝑟𝑜𝑤𝑖𝑛𝑔 𝑝𝑒𝑟𝑝𝑒𝑡𝑢𝑖𝑡𝑦 ) = 𝑟−𝑔1
Changing growth rates (estimating cash flows for the first years and then constant (lower) growth perpetuity)
𝐶𝐹𝑡 𝐶𝐹𝑡
𝑃𝑉 = ∑ 𝑡
+ ( ) / (1 + 𝑟)𝑡
(1 + 𝑟) 𝑟 − 𝑔
