Valuation

• Definition of value varies depending on the context and objective of valuation
• Going-concern value is a firm value that is determined under the going concern assumption, assuming the company will remain in business indefinitely and continue to be profitable
• Liquidation value is the net amount that would be realized if the business is terminated and assets are sold on a piecemeal basis
• Intrinsic value is a measure of what an asset is worth arrived at by objective calculation or complex financial models, rather than using the current market price
• Fair market value is the price expressed in terms of cash at which property or an asset would change hands, assuming an open and unrestricted market with willing and able buyer and seller
• Intrinsic value is calculated based on inherent characteristics of an asset, influenced by fundamental factors and determined by methods and assumptions
• Fair value is the amount set by buyers and sellers, influenced by external factors and determined by demand and supply
• Portfolio management depends on investment objectives of investors, with passive investors being disinterested and active investors wanting to understand valuation to participate intelligently in the stock market
• Analysis of business transactions/deals plays a big role in analyzing potential deals, with potential acquirers using relevant valuation techniques to estimate the value of target firms
• Reasons for divestiture include not being part of the core business, the need to generate funds, lack of internal talent, regulatory environment, or opportunistic approach
• Valuation in deals analysis considers two important factors: synergy and control
• Corporate finance involves managing the firm's capital structure and prioritizing and distributing financial resources to activities that increase firm value
• Company assets should be properly valued for tax purposes
• Valuation process involves understanding the business, forecasting financial performance, selecting the right valuation model, preparing the valuation model based on forecasts, and applying valuation conclusions to provide recommendations
• Understanding the business includes performing industry and competitive analysis to give insight into economic conditions, industry peculiarities, company strategy, and historical performance
• Industry structure involves inherent technical and economic characteristics, including capital intensity, advertising intensity, firm concentration, and average company size
• Porter's Five Forces include industry rivalry, new entrants, substitutes and complements, suppliers power, and buyer power
• Competitive position and advantage are crucial in determining a firm's value based on how it stands out from competitors and sustains its competitive advantage
• Generic corporate strategies include cost leadership, differentiation, and focus
• Business model pertains to the method by which a company generates revenue
• Analysts use historical financial statements for horizontal analysis, vertical analysis, and ratio analysis to understand how a company has performed in the past
• Horizontal analysis is also known as Trend percentages and Index analysis
• Used to identify trend and growth patterns
• Vertical analysis involves creating common-size financial statements by converting financial statements and expressing them in percentages or peso
• Ratio analysis is the comparison of line items in the financial statements of a business to evaluate
• Ethically, analysts should only use information that is publicly available
• Quality earnings analysis involves a detailed review of financial statements and accompanying notes to assess the sustainability of company performance and validate the accuracy of financial information against economic reality
• Quality earnings analysis also compares net income against operating cash flow to ensure reported earnings are realizable to cash and not padded through significant accrual entries
• Red flags that may indicate aggressive accounting practices include poor quality of accounting disclosure, related-party transactions, disputes with changes in auditors, material non-audit services performed by audit firms, management or directors' compensation tied to profitability or stock price, high management or director turnover, excessive pressure on company personnel to make revenue, management pressure to meet debt covenants or earnings expectations, and history of securities law violations or reporting violations
• Forecasting financial performance can be looked at through two lenses: Macro perspective (economic environment and industry where the firm operates) and Micro perspective (financial and operating characteristics)
• Two approaches for forecasting financial performance are Top-Down forecasting approach and Bottom-Up forecasting approach
• Insights compiled during industry, competitive, and business strategy analysis about the firm should be considered when forecasting sales, operating income, and cash flows
• Forecasting should be comprehensive and include earnings, cash flow, and balance sheet forecasts, as well as industry financial ratios
• Selecting the right valuation model depends on the context of the valuation and the inherent characteristics of the company being valued
• Preparing a valuation model based on forecasts involves sensitivity analysis and scenario modeling to assess risk
• Sensitivity analysis involves predicting outcomes after considering changes in variables affecting the situation, while scenario modeling examines a range of potential futures
• Applying valuation conclusions and providing recommendations involves using the calculated value to make decisions that suit investment objectives
• The value of a business is defined only at a specific point in time and requires consistent monitoring
• Value varies based on the ability of a business to generate future cash flows, with cash flow being the true determinant of business value
• The market dictates the appropriate rate of return for investors, influencing the discount rate used for valuation