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REKHA BAWA / GLA UNIVERSITY
valuation
Introduction of value
Value is the ‘worth’ of a thing. It can also be defined as ‘a bundle of benefits’ expected from it. It can be tangible or intangible.
value
cost vs price vs value
1. Cost is defined as ‘resources sacrificed to produce or obtain a thing, (a product or service).
2 Price is what is charged by a seller or provider of product or service. Many a time, it is a function of market forces.
Difference
valuation
valuation
Valuation is the process of determining the current worth of an asset. Valuation tells us how much it costs to acquire an asset.
Generally, valuation analysis is done to answer the following:
» How much should an acquirer pay to buy the target?
» Is the price offered for the company fair to shareholders?
» Is the company undervalued / overvalued in the industry?
» What is the underlying value of the business against which debt is being issued?
» Should we buy/sell/hold positions in a given security?
Who wants to Value?
Who ????
Investor: To estimate if the company is overvalued or undervalued
» Buyer / Acquirer: To ascertain the right price to buy the company. The bidding firm or individual has to decide on a fair value for the target firm before making a bid
» Seller / Target: To determine the right price the company can fetch for it. The target firm has to determine a reasonable value for itself before deciding to accept or reject the offer
» Management Consulting Firms: To advise companies on how to increase the value for shareholders to restructure the firms
»A Lender
BOOK V. Vs MARKET V.
Absolute Valuation
TECHNIQUES
The DCF model of valuation is an absolute valuation method.
Absolute valuation is a technique that attempts to determine a security’s value by focusing on underlying factors that affect a company's actual business and its future prospects.
Absolute valuation technique can answer the following:
– Is the company’s revenue growing?
– Is it actually making a profit?
– Is it in a position to beat its competitors in the future?
– Is it able to repay its debts?
ValUATION METHODS can be categorized as follows:
techniques
a) Absolute Valuation
b) Relative valuation
relative valuation
relative
It involves valuing an asset relative to its peers. Relative valuation approach could be linked to the basic concept of Economics- “The Law of One Price”, – which says that Investors will attribute similar value to similar assets.
» Trading Comparable analysis and Transaction comparable analysis are relative valuation techniques
» Relative valuation is based on P/E ratios and a host of other “multiples”
What is Discounted Cash Flow?
DCF MODEL
Discounted Cash Flow (DCF) as the name suggests is discounting the future cash flows of a company and summing them up to estimate the value of the company. It also means that DCF is the amount someone is willing to pay upfront to receive future cash flows of the company.
What is DCF Analysis?
Derives the inherent value of enterprise or asset by determining the expected future cash receipts and outflows (i.e. cash flows) generated by such enterprise or asset to all providers of capital
Uses weighted average cost of capital (WACC) as a discount rate to reflect the time value of money and risk of cash flows as on a specific valuation date
steps
Assumptions in DCF
PRINCIPLES
The underlying assumption in DCF is that a company or an asset is expected to make money (generate cash flow) over time.
The second assumption, which is also a fundamental theory, is that value of money today is worth more than it will be tomorrow.
The DCF model relies upon cash flow assumptions such as revenue growth rates, operating margins, working capital needs and new investments in fixed assets for purposes of estimating future cash flows. After establishing the current value, the DCF model can be used to measure the value-
creation impact of various assumption changes, and the sensitivity tested.
APPLICATION OF DCF MODEL
Application
It easiest to use for assets or firms with the following characteristics:
1. cash flows are currently positive
the cash flows can be estimated with some reliability for future periods, and
where a proxy for risk that can be used to obtain discount rates is available.
2. DCF approach is also attractive for investors who have a long time horizon, allowing the market
time to correct its valuation mistakes and for price to revert to “true” value, or those who are
capable of providing the needed thrust as in the case of an acquirer of a business.