Comprehensive Business Valuation – Instructor Jeff Schmidt / CFI

Course & Instructor Background

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Learning Objectives

• Identify and compare a wide range of valuation methods

• Distinguish enterprise value vs. equity value

• Explore the three main business valuation techniques (Intrinsic, Relative, Asset)

• Evaluate pros / cons of each method

• Learn to present analysis like a world-class analyst

• Calculate key outputs inside a valuation model

Definition & Reasons for Valuation

• Valuation = art + science of assigning value to an asset, investment, or company

• Answers: “What is a good vs. bad investment?”

• Typical motives:
  • Acquiring / selling businesses
  • Raising capital (IPOs)
  • Buy-hold-sell recommendations
  • Internal decisions, impairment tests, employee options
  • Bankruptcy, estate planning, litigation

Valuation as an Art & a Science

• Quantitative (science):
  • Historical financials, ratios, statistical analyses, cost of capital

• Qualitative (art):
  • Management quality, culture/strategy, industry structure, competitive “moat”, macro- & micro- economic factors, forecasting judgment

• Example metric: ROE
  $\text{ROE} = \dfrac{\text{Net Income}}{\text{Shareholders' Equity}}$

• Accurate forecasts require deep understanding of both micro & macro environments (CFI course: Analyzing Growth Drivers & Business Risks)

High-Level Valuation Techniques

• Intrinsic (Income) Approach
  • Discounted Cash Flow (DCF)

• Relative (Market) Approach
  • Public-company comparables
  • Precedent transactions

• Asset Approach
  • Cost-to-build / replacement cost
  • Liquidation value
  • Fair market value (FMV) of net assets

Intrinsic Value – DCF

• Values company in isolation of peers; focuses on cash-flow fundamentals

• Steps: forecast operations ➔ derive free cash flows ➔ discount to present at appropriate rate

• Less influenced by daily market sentiment

Relative Value – Comparables & Precedents

• Public Comps:
  • Use trading multiples (e.g., P/E, EV/EBITDA) of listed peers; reflects current market mood

• Precedent Transactions:
  • Analyze past M&A deals; incorporate control premium paid for ownership

• Analysts weigh multiple techniques → “Football-field” chart visualises valuation ranges

Enterprise Value (EV) vs. Equity Value

• Funding mix does not affect underlying asset value (house analogy → all 3 houses worth $\$500k$ regardless of mortgage/equity split)

• EV ≈ value of all operating assets available to debt & equity holders

• Equity value (market cap) = residual to common shareholders

Calculating Enterprise Value

$\text{EV} = \text{Market Cap} + \text{Net Debt}$
\text{Net Debt} = (\text{Short-Term + Long-Term Interest-Bearing Debt}) - \text{Cash & Equivalents}

• Cash offsets debt because it can retire debt and is non-operating

• Variations: adjust for preferred equity, minority interest, leases, pension deficits, etc.

EV vs. Equity – Pros & Cons

• EV:
  • Neutral to capital structure; better for comparing differently levered firms
  • Minimises accounting noise vs. net-income based multiples
  • Harder judgment on debt-/cash-like items

• Equity value:
  • Directly relevant for stock investors
  • Fewer adjustments; easier to compute
  • Impacted by leverage & accounting policies; less useful across varied capital structures

Valuation Consistency & Multiples

• Income statement waterfall: Sales → EBITDA → EBIT → EBT → Net Income

• Rule:
  • Denominators before interest ⇒ enterprise multiples (EV/Sales, EV/EBITDA, EV/EBIT)
  • Denominators after interest ⇒ equity multiples (P/E, P/B)

Discounted Cash Flow (DCF) Essentials

Net Present Value Formula

$\text{NPV} = \sum<em>{n=1}^{N} \dfrac{FV</em>n}{(1+i)^n}$

• $FV_n$ = forecast cash flow in period $n$; $i$ = discount rate

Types of Free Cash Flow

• Unlevered FCF (UFCF): cash available before servicing debt; used for EV; discount at WACC

• Levered FCF (LFCF): cash after debt payments; discount at cost of equity (less common)

Computing UFCF (EBIT method – most common)

1. $\text{NOPAT} = EBIT (1-\text{Tax Rate})$

2. Add back D&A

3. Subtract CapEx

4. Subtract ΔWorking Capital
   → result = UFCF

• Alternative bridges from EBITDA or Net Income (see slide formulas)

WACC Calculation

$\text{WACC} = \dfrac{E}{D+E}\,k<em>e + \dfrac{D}{D+E}\,k</em>d(1-T)$

• Cost of debt (k_d): current yield, not coupon

• Cost of equity (ke): CAPM
  $k</em>e = R_f + \beta\,(\text{ERP})$

CAPM Components

• $R_f$ = risk-free rate (long-term gov’t bond)

• $\beta$ = regression slope of stock returns vs. market (adjust for leverage)
  • Low $R^2$ ⇒ consider industry beta (un-lever & re-lever)
  $\beta<em>L = \beta</em>U \,[1 + (1-T) D/E]$

• ERP = equity risk premium (≈4–8 %)

Risk Spectrum

Government bonds (lowest) → corporate debt → equity (highest)
Higher risk ⇒ higher required return

DCF Structure

• Stage 1 (Discrete Forecast): 5–10 years individual cash-flow projections

• Stage 2 (Terminal Value): value beyond explicit period via:
  • Perpetuity Growth: $TV = \dfrac{UFCF<em>{n} (1+g)}{WACC-g}$ • Exit Multiple: $TV = EBITDA</em>{n}\times \text{Exit Multiple}$
  • Discount TV back (end-of-period or mid-year: multiply by $(1+WACC)^{0.5}$)

Implied Growth Rate & Terminal Multiple

Re-arranged perpetuity formula to solve for g or implied $TV/EBITDA$ (see algebra on slides):
$g = \dfrac{TV\times WACC - FCF}{FCF + TV}$ (end of period)
Mid-period variant divides both $TV$ & $FCF$ by $(1+WACC)^{0.5}$

Practical Considerations

• Works best for mature, positive-cash-flow companies

• Challenges: young / distressed firms; estimating private-company discount rate

• Advantages: theoretically sound, deep business insight, less swayed by market

• Disadvantages: input-intensive, sensitive to assumptions, potential for manipulation, false precision

Excel Functions

• NPV: =NPV(rate,value1,…) – assumes end-of-period, equal spacing

• Mid-period adjustment: =NPV()*$(1+rate)^{0.5}$

• XNPV: =XNPV(rate,values,dates) – irregular dates, daily discounting

• IRR: =IRR(values,[guess]) – internal rate making NPV = 0

• XIRR: =XIRR(values,dates,[guess]) – irregular intervals

Relative Valuation Details

• Definition: derives value by benchmarking to similar assets priced by market

• Multiples = ratios that scale for size (EV/Revenue, EV/EBITDA, P/E, P/B, etc.)
  • Track historical multiple for same company or cross-sectional peers

Choosing the Right Multiple (Life-Cycle Alignment)

• Inception / Early Stage: EV/Revenue (no profits)

• Growth / Early Maturity: EV/EBITDA (cash-flow visibility, asset-heavy)

• Maturity: P/E (net-income stable)

Advantages vs. Disadvantages

• Simple, fast, market-based, observable data, precedent control premium for M&A
  – Ignores unique drivers, subjectivity in peer choice, market mispricing, data availability, complexity hidden behind simplicity

Comparable Trading Analysis – Process

1. Select peer group (most critical) using: industry, geography, size/growth, profitability, leverage, accounting policies, capital structure

2. Enter data: share price, market cap, debt, cash, financials, calculate multiples

3. Value target: apply peer multiples to target metrics – build “football-field” summary

Precedent Transaction Analysis – Process

1. Select transactions: recent, same industry, available data, similar size, buyer type (strategic vs. PE)

2. Enter data: EV paid, financial metrics at announcement, premium %

3. Value target: apply takeover multiples; usually yields highest valuations (control & synergy)

Data Challenges

• Older deals may be necessary but less relevant

• Data often behind paywalls or incomplete

Multiples & Transaction Differences – Drivers

• Growth rates, management quality, mispricing, accounting choices, obsolete (“old”) deals, data inaccessibility

Levered Free Cash Flow Context

• LFCF = Cash from Ops − CapEx − debt principal repayments + debt borrowings

• Used mainly in LBO or equity-cash-flow valuations; discount at cost of equity

Excel “Football-Field” Chart Concept

• Visual compendium of valuation ranges from DCF base/best, comps, precedents, trading range (~52-week high/low)

• Illustrates analyst judgment weighing methods; acknowledges value can’t be observed precisely

Ethical / Practical Implications Highlighted

• Importance of sound assumptions; over-engineering can create false precision

• Need for transparency on sources, premiums, and adjustments to avoid manipulation

These notes consolidate all definitions, formulas, examples, and methodological steps discussed across the transcript, enabling standalone study without referring to the original slides.