Financial Resource

value reflect the quality of the management?

The last mile… Does the valuation reflect the picture you have of the business? , Would you be willing to pay this price?

In special cases

Multi business models:- The entire business is valued as a sum of the parts , Valuation depends on successful management of different units, Strategic decisions usually occur at each business unit level, To understand the company one needs to first understand the opportunities and threats faced by each business unit, Valuation of company that is based on valuation of individual business units provides deeper insight, Valuation of individual business units also helps understand whether the company is more valuable as a whole or in parts and to understand where the value is (eg. in some units or in the company as a whole), Particularly useful in restructuring and reworking business and financial strategy of the business going ahead. Helps understand and get a better picture of costs of the corporate office and understand allocation of these costs and whether these can be reduced. Identifying business units can be complex. Cash flows projection can be complex and interdependent on different units. Allocation of corporate office costs and other company costs/benefits may be difficult

A business unit is identified as one which can be split off as a standalone unit or sold to another enterprise:- Units are to be logically separable. They should not have depend production/sales/ distribution etc. Some joint products may fall under one unit, if there is interdependency which calls for this. If there is limited interdependency, this may be viewed by considering transfer pricing and whether transactions could be considered ‘arm’s length’

Allocation of corporate costs including some or all of these:- Salary and other costs of key management Board costs, Corporate administration costs, Costs of listing as a public company, Advertising and marketing costs

Allocation methods are to be carefully thought through and could be a combination of different methods for different costs, including:- Based on time spent (time sheets), Advertising based on revenue

Benefits are also to be incorporated, including:- Saving on operational costs, Information/ communications, Tax benefits / shields (ie one loss producing unit would provide a shield to another profit making one – important when one is considering a split up / hive off of some units)

Intangible benefits – can these be quantified? (Eg key person in management team / Board)

Difficulties and concerns:- Partial holdings in units (taken as a percentage of ownership of business unit value), Double counting may occur, Allocation may pose difficulties ,Interdependency may not be easy to separate , Intangibles cannot be easily quantified

Transfer pricing to be viewed in the regulatory context :- Mergers/Acquisitions, These have become very important as companies try to grow inorganically or network to exploit possible synergies, Most senior executives may be involved in such transactions, Directly or indirectly, In the buy side or target side

Mergers/Acquisitions: – Rationale for the proposed transaction is to be understood

Synergy, Revenues, Costs, Intangibles, Control/ dominance in market, under valuation perceived (LBOs/LBIs)

Mergers/Acquisitions Studies show that generally acquired company shareholders gain

Reasons for failure: – Poor post acquisition management, over payment for target          

Mergers/Acquisitions: – Research has suggested that the following factors have resulted in positive deals, Bigger value creation overall, Lower premiums paid, Better run by acquirers

Mergers/Acquisitions:-  Overpayment could be because of a combination of these factors: Market potential – overoptimistic appraisal , Synergy – overestimated, Due diligence – inadequate, Bidding – excessive, Mergers/Acquisitions

Synergy:- Operational(vertical and horizontal M&A eg backward integration, captive customer), Functional  (Production, sales), Benefits (tax, control etc.) and impact on cash flow to be quantified (eg. increased sales, reduced wages) keeping timing in mind

Mergers/Acquisitions:- LBOs/LBIs, Initially high leverage, May be followed by rapid reduction in debt, This impacts business risk which will change, Cyclic companies, Fluctuation in earnings over different periods in time, One approach taken is that if done correctly, DCF evens out fluctuations /volatility in the long term because all value is reduced to a single period, However position of current year in cycle, needs to be factored in as it is considered as base year

Cyclic companies:- Growth rates in different years need to be adjusted based on expected cycles, There may be difficulty in estimating cycles accurately, If future differs from past, this would impact forecasts and therefore impact valuation, It is important to have different possible scenarios and arrive at a range of values should be arrived, This is useful as managers can implement decisions based on the valuation depending on the stage of the cycle the company is in (eg. for buyback, issue of shares, raising of debt funds)

Companies in distress: – May have one or all these problems, Negative cash flow, Unable to pay back debt, Liquidity crunch

Valuing the company based on expectation of turnaround:- Assume the company will be healthy soon and look at future based on a healthier past, Analyze based on future expected transaction in which cash flow is identifiable, Liquidation value, Sum of parts based on individual identification of units , Consider different alternate scenarios of units in different combinations, Consider all assets tangible and intangible ,Cap at possible realizable value

Cross border transactions:- There are special issues in such cases, including, Foreign exchange fluctuations, Difference in regulations (statutory, accounting), Estimating cost of capital, Country risks, Inter country transactions ,Cross border transactions, Analyze past performance, Translate Fx into host country financials, based on accounting standards, Include any tax implication (eg subsidiary may pay dividend tax only if this is paid out), Arrive at FCF and convert to domestic currency, Cross border transactions, Consider impact of restrictions on transfer of currency, In place of FCF, multiples may also be used

View impact of accounting regulations on financials: –Provisions (pension), Goodwill (amortized or against equity), Revaluation of assets, Deferred taxes , Fx translations, Non-operating assets, Tax

Cost of capital:- Market risk premium difficult to estimate, sometimes proxies are used, Risks in changing regulations , Political risks, Illiquid capital markets, Restrictions on cash flows

Privatization:- Listed companies have the following which may lead to increased costs, Increase in information to be provided per listing requirements, Separation of ownership and management (good/bad?), Focus on stock prices at the cost of  fundamental growth, in many cases

Implication of privatization:- Reduced access to finance, Reduced visibility of company (impact on brand), Reduced requirement for compliance/governance, Impacts to be factored in for valuation, to the extent possible

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