valuation slides week4 2 - multiples mpa

7/24/2019 Valuation Slides Week4 2 - Multiples MPA

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Valuation

MPA FIN 286

Alessandro Previtero

Slide Pack Week 4 Part 2

Relative Valuation



Today’s Content

I. Announcements:

•

Review session tomorrow.• Airthread case due Monday

II.

Glossary:

http://pages.stern.nyu.edu/~adamodar/New_Home_Page/

datafile/variable.htm

III. Relative Valuation Approach

IV.

Boston Beer Case

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• Introduction•

Discounted Cash Flow (DCF) Models – Discount Rate – No Friction Model –

WACC (Weighted Average Cost of Capital) –

APV (Adjusted Present Value)• Multiples

•

Other topics: LBO’s, M&A, etc.

I. Company Valuation



Multiples Approach

• There is a significant philosophical difference between discounted

cash flow and relative valuation. ! In discounted cash flow valuation, we are attempting to

estimate the intrinsic value of an asset based upon its capacityto generate cash flows in the future.

! In relative valuation, we are making a judgment on how muchan asset is worth by looking at what the market is paying forsimilar assets.

• The multiples approach is a relative valuation that is based on theidea that similar companies should be equally priced1. Identify a set of comparable companies

2.

Calculate a valuation metric to value the asset3.

Calculate an initial estimate of value4. Adjust the value to the special characteristics of the company

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Multiples Approach

A B C D E115 $40 $50 $100 $15V

30 $10 $15 $20 $5EBITDA

3.83 4 3.3 5 3MULTIPLE

Comparables

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Valuation Ratios

• Several ratios are used to value assets ! Equity (Stock Price) Multiples

! P/E! PEG!

MVE/BVE ! Enterprise Value Multiples

! V/EBITDA!

V/FCF! V/Sales! V/EBIT

• The choice of which ratio to use depends on the type of firm that isvalued, and the choice of comparables ! For mature companies, I like to use the V/EBIT ratio. Why?

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Choice of Comparables

• Good comparables should match the investment to be valued on

the characteristics that determine its value. ! For companies, characteristics include industry, cost structure,

capital structure, growth potential, life-cycle, presence orabsence of strategic/growth options, and others

! For real estate, important comparable characteristics includelocation, age, condition, etc.

! For power plants, important characteristics are demand forpower, efficiency (heat rates, etc.), technology, etc.

• No two investments are identical

! In every comps valuation you must assess the extent to whichthe differences across assets are likely to have a material effecton the valuation multiples.

! Operating Leverage (fixed costs relative to revenue) increasesinvestment risk

! Investments with higher operating leverage will experiencemore volatility in operating income in response to changes inrevenues

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•

You want to know whether Amazon is over- or under-valued usinga simple PE ratio approach.

• Information on forward PE ratios:

An example of trading multiples (1/2)

Source: Capital IQ

PE Oct 16, 2012 Amazon (AMZN) 156.53

Barnes & Noble (BSK) NM

Expedia (EXPE) 17.05

Ebay (EBAY) 19.34

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• But Amazon exhibits much more growth than the other companies

–

Consensus of 27% for average EPS growth over next 5 years – We could use instead the so-called PEG ratio:

• Information on forward PEG ratios:

An example of trading multiples (2/2)

Source: Capital IQ

PEG Oct 16, 2012

Amazon (AMZN) 4.16

Barnes & Noble (BSK) NM

Expedia (EXPE) 1.27

Ebay (EBAY) 1.35

100!

=

growth EPS Annual

PE PEG

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Multiples Approach and DCF

• The Multiples approach is a very rough approximation of the DCF

• Example: From DCF to P/E

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Assumptions

[ ]( ) g r

Earnings

g r

FFCF

r

FFCF V

t t

t

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+

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=0 1

E 1.

FFCF growing perpetuity

2.

FFCF ~ Earnings

3.

Comparable leverage

4. Comparable Risk ( r )

5. Comparable growth rate (g) g r N E

N V

!

"

1

/

/

g r E

V

!

"1

M g r EPS

P =

!

" 1



Multiples: Example

• Company A is trading at a P/E multiple of 20, and company B is

trading at a P/E multiple of 30. Are shares of company B overpricedrelative to shares of company A?

•

No! Company B could have:1. higher FCF in the future (terminal value)2. same E but higher FCF (higher DA, lower Capex, better NWC

management, ")3. Higher leverage4. Lower risk5.

Higher growth rate

• In order to correct for these approximations, you need to adjust theP/E ratio ! Adjust P/E ratios using regression analysis ! run a DCF!

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•

Consider you want to value a home with 3,581 sq.ft. – One year old – Oversized lot –

Has swimming pool

• Information about recent transactions in same area (comparables):

An example of transaction multiples (1/2)

Source: Titman and Martin 2007, chapter 6

Comp #1 Comp #2 Average

Sale price $330,000 $323,000 n.a.

Square footage 3,556 4,143 n.a.

Selling price/sq.ft. $92.80 $77.96 $85.38Estimated value $332,317 $279,175 $305,746

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•

We need to adjust our estimates for distinctive features:

•

Question: how would you value a house using a DCF approach?

An example of transaction multiples (2/2)

Source: Titman and Martin 2007, chapter 6

Comp #1 Comp #2 Average

Estimated value $332,317 $279,175 $305,746

Adjustments

Plus lot premium $20,000 $20,000 $20,000Plus pool $15,000 $15,000 $15,000

Estimated market value $367,317 $314,175 $340,746

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•

Using raw multiples provides only a rough approximation of the truevalue of a company

•

As we have seen, sales growth rate, leverage, betas and othercompany-specific characteristics affect multiple ratios.

•

Solution " adjust multiples using specific company characteristics

1. Identify key drivers that affect multiples2.

Run Market- or Industry- wide regressions between multiplesand key drivers

3. Find predicted value of multiples ratio for your company

Adjusting Multiples (1/2)

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Adjusting Multiples (2/2)

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HOG Multiples Valuation

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•

Step #1 : Find Comparable Companies

• Step #2 : Get Financial and Operating Statistics forComparable Companies

•

Step #3 : Compute Weights for ComparableCompanies

• Step #4 : Find Trading Multiples for ComparableCompanies

• Step #5 : Apply Trading Multiples to HOG

• Step #6 : Use Regression Approach



Multiples: Pros and Cons

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Multiples Approach

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P R O S

C O N S

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•

You might prefer using DCF over Multiples when: ! The firm is relatively unique in its industry and there’s no good

comps ! You suspect a bubble or a panic or some other type of market

irrationality ! The firm operates in an industry with very few public firms so

there’s just not much comp data ! You believe you have superior information (e.g. CFs forecast)

•

You might prefer using Multiples over DCF when: ! If you have really good comps and you believe the market is

operating rationally ! If you have very little confidence in projections of future

performance ! If you’re trying to solely determine market value, or the amount

you could get in a sale of the asset or the price you’ll have to payto buy the asset

Multiples Vs DCF (1/2)

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•

In practice, we almost always use both methods andconsider both values

! I recommend doing the DCF first so that you can getan understanding of the business which will allow youto discern better comps for the relative value work

! Both the DCF value and the Relative Value measuresprovide important clues and information about the

value of the asset you’re working with, and providesomewhat of a check on each other (very important)

Multiples Vs DCF (2/2)

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Next Wednesday – Boston Beer Co. Case

• Group Assignment: 3-4 people

• Answer questions posted on Canvas

• Print a copy of your report to hand it in at the beginning of the class

• Be ready to answer questions in class.

•

Please use only the information provided in the case

•

For your convenience, I posted on Canvas an excel file with the maintables in the exhibits.

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valuation slides week4 2 - multiples mpa

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