valcomp tutorial 2014 (unlocked)

MCC Valuation Competition Tutorial

Contents

1.  Overview

2.  Competition Format

3.  Rules

4.  Entry Fees

5.  Concluding Thoughts

6.  Handover for Technical Tutorial

Overview

To create a real-world experience of an analyst at an investment bank

A short case on an NZX-listed company

Our Aim:

How?

Presenting

to Panels of industry judges

Competition Format

40 Hours Preparation

Teams of 2-4 People

10 Minute Presentation

10 Minute Q&A

Case Distributed Preliminary Rounds

Networking Function

Friday 23rd

Sunday 25th

Final Rounds

Saturday 24th

Competition Format

Final Round 4 Teams

Division A Division B Division C Division D

Winner of Division Winner of Division Winner of Division Winner of Division

$750 for 1st Place

$250 for 2nd Place

Technical Tutorial

7

Contents

1. Introduction

2. Forecasting cash flows

3. Discount cash flow valuation

4. Multiples valuation

5. Sum of the parts valuation

8

Different perspectives Your job is to convince investors to buy or sell based on your analysis of the case company

Research Analyst Corporate Finance Analyst Fund Analyst

§  Review announcements

§  Update valuation models

§  Prepare research report

§  Make a call – buy/hold/sell

§  Market to institutions

§  Game changer acquisition

§  Capital restructuring opportunity

§  Prepare roadshow materials

§  Lots of work behind the scenes

§  Market to institutions

§  Post-transaction implications

§  Operational implications

§  Strategic implications

§  Own view on valuation

§  Bid into bookbuild

§  Reweight post-transaction

60% 10% 30%

Indicatively,

Business analysis Industry analysis Financial analysis Key catalysts 35% 25% 30% 10%

9

The company A strong understanding of the business drivers is core to a robust valuation

Places to look: ‒  Annual report ‒  Management presentations ‒  Newspaper articles ‒  Other reports and

presentations

Business analysis Industry analysis Financial analysis Key catalysts

Sources of revenue

Business insights

Value chain

Customers

10

The industry Company pedigrees – how does the company fare?

Places to look: ‒  Statistics NZ ‒  RBNZ ‒  Treasury ‒  News articles ‒  Industry expert reports


Supply and demand

Regulation

Competitor activity

Industry trends

Industry specific factors

11

Valuation at a glance


Financial performance

Business drivers Industry drivers

Sum of the parts Discount cash flow Multiples

Valuation methods

Intrinsic value

12

Some key concepts


‒  Present Value (PV) – the value of future cash flows now

‒  Weight Average Cost of Capital (WACC) – the average return that equity and debt holders expect from the company

‒  Free Cash Flow (FCF) – cash available for distribution to stakeholders after paying for new investments and working capital

‒  Enterprise Value – the total value of a company (calculated as market cap + net debt + minority interest - associates)

‒  Net Debt – long term + short term debt – cash & cash equivalents

13

Valuation – EBITDA Earnings Before Interest, Taxation, Depreciation and Amortisation measures the current operational profitability of the business


Average sales per segment

Growth in same segment sales Size of segment = Revenue

Gross profit margin per segment

Other operating expenses per

segment Size of segment = Expenses

Less

Equals

Segmental EBITDAs

Less

Group overheads

Equals

Group EBITDA

Call centre, director and executive salaries, audit fees, etc.

14

Valuation – NOPAT Net Operating Profit After Tax (NOPAT) is a company’s after-tax operating profit for ALL investors


Group EBITDA Less D&A

Equals EBIT

x(1-tax rate) =

NOPAT1

As per above

Depreciation and Amortisation

EBIT represents earnings after operating leverage but before financing leverage

No interest expenses have been deducted – represents profits to all investors

(1) To calculate the NPAT, a measure of after tax equity returns, deduct interest expense before deducting tax

15

Valuation – working capital Increases in net working capital (WC) represent an “investment” in shorter term operating assets and is therefore a cash outflow


Current operating assets

• Receivables •  Inventories

- Current operating liabilities

• Accounts payables

= Net working capital

• ▲NWC = cash outflow

• ▼NWC = cash inflow

16

Valuation – FCF Free cash flows represent cash available for distribution to stakeholders after paying for new investments (capex) and investing in operating assets (WC)


NOPAT Less Capex

Less Changes in WC

Equals

FCFF

As per above

As per above

As per above

Free cash flows to the firm are available to all investors (debt and equity)

17

Valuation – discounted cash flow Discount cash flows back to present value using appropriate discount rate


FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 FY24 FY25 FY26

FCFs FCFs FCFs FCFs FCFs FCFs FCFs FCFs FCFs FCFs FCFs FCFs

+

Terminal value

Free cash flows to the firm discounted by WACC

Equals

EV Total value of the company (to all investors)

Less Net debt

Less Minorities

As explained above

Shareholders in subsidiaries where the case company does not own 100%

Equals

Total market equity Market value of shareholders’ equity – divide by outstanding shares for share price

18

Valuation – WACC


19

Valuation – equity beta Significant time should be invested into this measure


1. Regression

•  Regress company stock price returns against market

returns (use index e.g. NZX50)

•  Beta is the slope of the regression

•  Data can be obtained from Yahoo!

2. Re-levering asset beta

•  Betas are affected by firm leverage •  Un-levering betas allows for comparison across

companies

•  𝐵↓𝑢 = 𝐵↓𝑙 /1+(1− 𝑇↓𝑐 )× 𝐷/𝐸   •  Regress comparable companies equity betas •  Re-lever for subject company

20

Valuation – WACC Estimating WACC is always going to require estimation – ensure you can justify what you have used


Asset Beta 0.80

Target Gearing 30%

Risk Free Rate 6%

Market Risk Premium 7%

Equity Beta 1.00

Cost of Equity 13%

Debt Premium 1%

Corporate Tax Rate 28%

Cost of Debt 5.04%

WACC 10.6%

Assumption of 1%

Use 28% as the corporate tax rate

Assumption of 7%

Risk free rate of 6% assumed

21

Valuation – terminal value Using a normalised FCF, we calculate a perpetuity value in a future period


• Same WACC as before WACC

• Depends on the LT growth rate of the industry • Frequently, inflation rate is used as a proxy g

• The final year’s FCF Final cash flow

Or

A multiple1 EV/EBITDA, EV/EBIT, EV/BV

22

Valuation – comparable companies Comparable multiples are an important metric for gauging market attitudes


1 • Choose normalised earnings base (EPS, EBITDA, EBIT) and multiple

2 • Choose time period (FY11, FY12)

3 • Find implied multiples from comparable companies

4 • Apply multiple to earnings

23

Valuation – comparable companies Choose comparable companies that are closely matched with the case company – not always easy…


Expected earnings growth

Underlying mix of assets generating earnings

Margins

Geographical spread

Product mix

Company size

24

Valuation – comparable companies Always use normalised earnings when comparing companies


• Share price/(diluted) EPS PE

• Enterprise value/EBITDA EV/EBITDA

• Enterprise value/EBIT EV/EBIT

• Enterprise value/Sales EV/Sales

•  (Div / share) / Share price Dividend Yield

25

Valuation – comparable companies Transaction comps require much more research to gather data (not suitable for this competition due to limited time and limited access to resources)


Trading

•  Used more for investment purposes

•  Valuation using current market information

•  More relevant in this context

Transaction

•  Used more for transaction/deal purposes

•  Based on previous transactions of similar companies in the industry

•  e.g. IPO and takeovers of previous companies

26

Valuation – Sum of the parts (SOTP)


Value each divisional or geographic segment separately

For each segment, forecast segmented revenues, earnings and/or FCF

Use appropriate models to value each segment (DCF, multiples)

Add together the EV of each segment then add back net debt and minorities

27

Valuation – sensitivity / scenario analysis Sensitivities allow you to test the robustness of your valuation


• Terminal growth

• Revenue and expense growth assumptions

• Commodity price and FX changes

• Projects and investments

DCF

• Multiples adopted

• Choice of companies Multiples

28

Valuation – making a call


Buy

Sell

Hold

+15%

-15%<re <15%

-15%

29

Valuation – presentation You may put more weighting on certain valuation methods depending on your justification


$3.00 $3.50 $4.00 $4.50

Trading Range

DCF

EV/EBITDA

EV/Revenue

Target Price $4.10 Assumptions:

2.0x – 3.0x

8.0x – 9.0x

WACC 12%, TGR 2%

6 month trading range

30

Valuation - recommendation


Good company •  Strong cash flows •  Low regulatory risk •  Company

governance •  Growth

opportunities

Good stock •  Undervalued •  Investor position •  Risk in valuation

31

Valuation - recommendation


Valuation price now

•  Equity value divided by number of shares

•  Value as of now

12 month target price

•  Ignore next 12 month’s cash flows

•  Price as of 12 months from now – do not discount back to now

32

Key catalysts Some of this information ties back to industry. Best place to look is management presentations and annual reports


Risks and Opportunities can be priced into the company valuation through scenario analysis

Lack of suitable growth

opportunites

Changing consumer tastes

High barriers to entry

Balancing margin vs volume

Competition

33

Tips for the competition

‒  Have someone not involved in building the model sense check

‒  Determine subgroups and speaking roles beforehand

‒  Create master slide template beforehand

‒  Look up general economic data between now and Friday

‒  Calculate most components of WACC between now and Friday

‒  When looking for specific info in an annual report – CTRL + F

34

Recommended presentation time

Introduction & business analysis 20%

Industry analysis 20%

Valuation & key drivers 40%

Opportunities, risks & conclusion 20%

Total 10 min

1

2

3

4

35

Where possible, reduce key person risk

Role 1 2 3 4

Overall project management √√√

Read case and company reports √ √ √ √

Conduct business analysis √ √√√ √ √

Conduct industry analysis √ √ √√√ √

Gathering industry data √√

Gathering segmental data √ √√

In-depth financial analysis √√√ √

Compiling forecast assumptions √√ √√

Key risks and opportunities analysis √ √√√

Sensitivity and scenario analysis √√√ √

Pull together presentation slides √ √√ √√ √√

Practice presenting √ √ √ √

36

Closing thoughts

‒  You will feel time pressure

‒  Very similar to RFP response processes (corporate advisory)

‒  Business and industry analysis more important than the numbers

‒  Can do well with a simple, well researched valuation

‒  Back your assumptions the best you can

‒  When answering questions, share the love

‒  Have fun

valcomp tutorial 2014 (unlocked)

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