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Aswath Damodaran
Truth 1.1: All valuations are biased. The only questions are how much and in
which direction.
Truth 1.2: The direction and magnitude of the bias in your valuation is directly
proportional to who pays you and how much you are paid.
Truth 2.1: There are no precise valuations
Truth 2.2: The payoff to valuation is greatest when valuation is least precise.
Aswath Damodaran
Liabilities
Fixed Assets
Current
Liabilties
Current Assets
Debt
Financial Investments
Other
Liabilities
Intangible Assets
Equity
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Assets
Existing Investments
Generate cashflows today
Includes long lived (fixed) and
short-lived(working
capital) assets
Expected Value that will be
created by future investments
Aswath Damodaran
Liabilities
Assets in Place
Debt
Growth Assets
Equity
Estimate a value based upon how similar assets were priced in the market
Aswath Damodaran
I. Perceptions of Prosperity
Q
Q
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The accounting measure of what a business is worth and what the equity
possessed by the owner is worth is in the balance sheet. The book value of
assets reflects the former and the book value of equity reflects the latter.
The advantage of using book value is that it is relatively easy to obtain for
almost any business - public or private.
The disadvantage of using book value is that is often not a reliable indicator of
the true value of either a business or its equity.
Aswath Damodaran
When a firms assets are kept off the books, for illegal or legal reasons.
If a firm consistently underreports income to the tax authorities, the book value is
likely to be a poor reflection of true value. (The illegal)
Accountants are also not entirely consistent in the way they treat spending. For
instance, they require firms to expense R&D expenditures rather than capitalize
them and show them as assets. This results in book values being understand for
technology firms.
When a big portion of a firms value comes from expected future growth:
Accounting statements reflect investments that a firm has already made rather
than investments it expects to make. Thus, the book value will be substantially
lower than market value for high growth firms.
Aswath Damodaran
$ 3 billion
Liabilities
Investments already
made
Debt
Investments yet to
be made
Equity
$ 7 billion
$ 11 billion
$ 71.12 billion
Aswath Damodaran
Liabilities
Investments already
made
Debt
Investments yet to
be made
Equity
$ 0.12 billion
$ 77 billion
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Step 1: Find other companies similar to your business that have been sold/
bought.
Step 2: Obtain the transaction prices.
Step 3: Scale the transaction prices to some common variable:
Q
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Step 4: Estimate the value of your business based upon the scaled price
Step 5: Adjust the value for the specific characteristics of your business
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Kristin Kandy
Relative Valuation
Variable Used
Average for comparables
Value of Kristin Kandy
Revenue
3.00
3* 500,000 = $1.5 million
Operating Income 10.00
10*160,000 = $1.6 million
Net Income
12.00
12* 150,000 = $1.8 million
Q
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Q
Q
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What is it: In discounted cash flow valuation, the value of an asset is the
present value of the expected cash flows on the asset.
Philosophical Basis: Every asset has an intrinsic value that can be estimated,
based upon its characteristics in terms of cash flows, growth and risk.
Information Needed: To use discounted cash flow valuation, you need
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Value of asset =
CF1
CF2
CF3
CF4
CFn
.....
(1 + r)1 (1 + r) 2 (1 + r) 3 (1 + r) 4
(1 + r) n
where CFt is the expected cash flow in period t, r is the discount rate appropriate given the
riskiness of the cash flow and n is the life of the asset.
Proposition 1: For an asset to have value, the expected cash flows have to be positive
some time over the life of the asset.
Proposition 2: Assets that generate cash flows early in their life will be worth more
than assets that generate cash flows later; the latter may however have greater
growth and higher cash flows to compensate.
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Liabilities
Assets in Place
Debt
Growth Assets
Equity
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Equity Valuation
Assets in Place
Growth Assets
Liabilities
Debt
Equity
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Firm Valuation
Assets in Place
Growth Assets
Liabilities
Debt
Equity
Present value is value of the entire firm, and reflects the value of
all claims on the firm.
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Return on Capital
13.64%
Reinvestment Rate
46.67%
Expected Growth
in EBIT (1-t)
.4667*.1364= .0636
6.36 %
Stable Growth
g = 4%; Beta =3.00;
ROC= 12.54%
Reinvestment Rate=31.90%
Firm Value:
2,571
+ Cash
125
- Debt:
900
=Equity
1,796
Liq. Discount 12.5%
Equity value 1572
1
$319
$149
$170
2
$339
$158
$181
3
$361
$168
$193
4
$384
$179
$205
5
$408
$191
$218
Term Yr
425
136
289
Cost of Debt
(4.5%+1.00)(1-.40)
= 3.30%
Cost of Equity
16.26%
Weights
E =70% D = 30%
Riskfree Rate :
Riskfree rate = 4.50%
(10-year T.Bond rate)
Total Beta
2.94
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Risk Premium
4.00%
Firms D/E
Ratio: 1.69%
Mature risk
premium
4%
Country Risk
Premium
0%
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