MARKET APPROACH VALUATION

 Follows the concept that the value of the business can be determined by reference to
reasonably comparable guideline companies for which transaction values are
known.
 Typically used in professional business appraisals (comparative transaction
method/comparative private company sale data method, guideline publicly traded
company method and use of expert opinions or professional practitioners).
 Easy to grasp and straightforward.
Categories:
 Empirical/Statistical Approach
- Uses research and database processing in order to come up with
conclusion and recommendation.
- Requires references and evidence to support the determination and
evaluation.
- Information’s: Sales Data, financial performance, other historical information
- Trend analysis and benchmarking – may be used to process the info.

1. Comparative Private Company Sales Data

- formerly known as comparative transaction method; guideline
transaction method or comparative business sales data.
- involves finding out prior transactions of comparable companies.
- Most widely used publications available on the internet: Institute of
Business Appraisers, BIZCOMPS, Pratt’s Stats, Done Deal, Mid Market
Comps(ValueSource), Mergerstat)
- Definition of value, size of the company being valued & magnitude of
the valuation stake (majority or minority)
- A majority stake in a large well-established company should be
valued relative to either (a) a prior transaction or (b) guideline
transactions.
- A minority stake should be valued using the guideline company
method after proper discounts and adjustments.
- Advantage: source data is reliable and comparable.
- Limitation: insufficient market evidence; require careful data selection,
analysis and consistent data reporting standards
2. Guideline Public Company Data
- Identifying comparable company and obtaining the stock price for the
company’s listed securities.
- PLCs are required to file their FS electronically with the SEC; these
filing are public information and are available on the SEC website, also
in PSE.
- Advantage: availability of large set of recent data
- Limitation: comparison to small businesses may not be as relevant
3. Prior Transactions Method
- looking up historical transactions in securities of the business under
valuation.
- Advantage: it is already a good reference for valuation, if the data is
available.
- Limitation: since this is reliant heavily on the data, absence of a good
data may not enable this approach to produce reliable results.
 Comparable Company Analysis
A technique that uses relevant drivers for growth and performance that can be used
as proxy to set a reasonable estimate for the value of an asset or investment
prospective.
o Financial ratios – are used as tools to assess and analyze business results.
o Ratios or multiples are useful tools for doing comparative company analysis.
 o Advantage: it creates better and relevant comparison knowing that opportunities
or investments have distinct drivers of their performance.
o Factors to be considered in determining the value using CCA:
 Comparators must be at least with the similar operations or in the similar
industry
 Total or absolute values should not be compared
 Variables used in determining the ratios must be the same
 Period of observation must be comparable
 Non-quantitative factors must also be considered

Price-Earnings Ratio – represents the relationship of the MV per share and the
EPS; sends signals on how much the market perceives the value of the company as
compared to what it actually earns. (P/E Multiples or Price Multiples)

P/E Ratio = MV per share/EPS

Book-to-Market Ratio – used to determine the appreciation of the market to the

value of the company as compared to the value it reported under its SFP. Limitation:
certain values incorporated do not represent the true value of the company.

Book-to-Market Ratio = Net Book Value/Market value per shares

Book Value per share = Net Book Value/No. of Outstanding Ordinary Shares
Net Book Value = Total Assets – Total Liabilities

Dividend-yield Ratio – describes the relationship between dividends received per

share and the appreciation of the market on the price of the company; also known
as Dividend multiple; provides investors with the value which they can actually get
from the company.

Dividend-yield ratio = Dividend per share/ Market Value per share

EBITDA Multiple – represents the net amount of revenue after deducting operating
expenses and before deducting financial fixed costs, taxes, and non-cash expenses.

EBITDA Multiple = Market Value per share/EBITDA Per share

EBITDA per share = EBITDA/Outstanding Ordinary Share

o Comparable company analysis uses tools to enable the comparison between

companies given the differences in 3S – Strategy, Structure and Size.

 Heuristic Pricing Rules Method – analysts use business pricing formulas that are
developed based on the expert opinion of professionals involved in business deals.
Advantage: pricing multiples based on the expert opinion of active market participants
is made available; pricing formulas are often relied upon both by practitioners and their
client business owners and buyers when pricing a deal.
Limitations: May not be sufficiently backed by rigorous statistical analysis; availability
of information for non-brokered business deals.
OTHER VALUATION CONCEPTS AND TECHNIQUES
 DUE DILIGENCE
 Definition: is a process of validating the representations made by a seller, normally
to an investor.
 Due diligence team: lawyers, auditors and technical experts
 Securities Act of 1933 – requires full disclosure of information from the dealers and
brokers, this provides protection to the investors engaging with any concealed
information that would impair the value of the investment. -USA
 Republic Act 8799(Securities Regulation Code) – serves as the equivalent regulation
that protect investors in the country, charter of the SEC
Types of Due Diligence
According to Executor:
a. Corporate due diligence
- to be conducted or commissioned by a company or corporation that will invest to
business.
- normally commissioned external experts since companies do not consider this
exercise as their core function.
- due diligence cost is considered part of the cost of investment of the company.
b. Private due diligence
- facilitated or conducted by individual or at least few individual investors but is
not yet incorporated.
- usually done by the investors themselves since most of them are not capable of
forming or hiring a team.
- due diligence team can still be constituted but for as long as the engagement is
with a private individual it is considered private due diligence.
c. Government due diligence
- commissioned or conducted by the government
- for protection of the public or evaluation of the operations of the company for
the public interest.
According to Subject:
a. Hard due diligence
- focuses on data and hard evidential information.
- lawyers or legal team, accountants, and deal facilitators are actively engaged.
- normally focuses on EBITDA, aging of receivables and payables, cash flow and
CapEx.
- Prone to unrealistic biased interpretations by eager salespeople
Examples:
 Review and audit of FS
 Validation of the projections for future performance
 Analysis of the market or industry where the subject company belongs
 Review of operational policies, process and procedures
 Review of potential or ongoing litigation
 Review of antitrust considerations
 Assessment of subcontractor and other third-party relationships
b. Soft due diligence
- focuses on internal affairs or the internal organization of the company and its
customers.
- designed to validate the qualitative factors that affect the realization of returns,
which measurement cannot be normally done by use of mathematical
calculations.
- Human capital due diligence – subcategory of soft due diligence; introduced in
April 2007 issue of the Harvard Business Review; focus on assessing the
organization, mission and vision as well as competencies of the employees and
management of the business.
Examples:
 Organization review including succession plans
 Competency assessment
 Quality assurance on customer services
 Quality assurance on processes
 On the ground interview and examination
c. Combined due diligence
 - cover both quantitative and qualitative areas of the company or business
- also known as comprehensive due diligence
Examples:
 compensation and benefits
 retirement packages
 qualitative impact of collective bargaining agreement
 cost benefit analysis of customer service initiatives
Factors to be considered in Due Diligence Process (MPEMFSSML)
 Market Capitalization
- provides an indication on how volatile the value of the company in the
market.
- represents how broad its ownership is and the potential size of the
company’s target markets.
- used to categorize the companies in terms of its volatility.
- 3 categories of market capitalization (per PSE): (1) Large-cap companies –
tend to have stable revenue streams and large, diverse investor base,
which tends to lead to less volatility; (2) Mid-cap companies and (3) Small-
cap companies
 Performance/Profitability Trend Analysis
- the result of this analysis may provide sufficient data for projection.
some of its focuses are revenue growth, net income growth, net income
margin, EBITDA margin, return on investment capital, return on total
assets.
 External Environment Analysis
- involves scanning the market forces that may have an impact to the
business.
- A sound test is to validate that factor impact to the company for 5 to 7
years.
 Management and Share ownership
 Financial statements
- serves as the best document to support the financial performance and
financial position of the company including their cash flows.
 Stock price history
- investors should research both the short and long-term price movement of
the stock and whether the stock has been volatile or steady.
 Stock dilution possibilities
- if the company is planning on issuing more shares, the stock price might
hit and hence possibilities of stock dilution.
 Market expectations
- investors should find out what the consensus of market analysts is for
earnings growth, revenue, and profit estimates for the next two to three
years.
 Long and short-term risks
- Investors should keep a healthy attitude or professional skepticism at all
times, picturing worst-case scenarios and their potential outcomes on the
stock.

 MERGERS AND ACQUISITION

 Definition: is a corporate strategy that allows a company to combine its assets to
another company or to acquire another company.
 Merger – when two companies combine to form another company
 Acquisition – taking over or taking a part of a company
  M & A become a popular business strategy for some companies to expand and for
other to save from distress.
Top reasons why companies entered into M&A’s:
o Manage cost of capital
o Expansion and growth
o Economies of scale
o Diversify for expanded market coverage
o Widen access in the industry
o Technological advancement
o Tax management strategies
o Legal strategies
o Control over supply chain
 In M&A’s there should be a (1) company must be willing to take the risk and
vigilantly make investments to benefit fully from the merger as the competitors
and the industry take heed quickly; (2) multiple bets must be made to maximize
the opportunities available and (3) the acquiring firm must be patient in the
realization of its investment.
M&A’s According to Form:
a) Absorption – done when a company takes over another company, normally the latter in
a more disadvantageous position. Ex.: PLDT absorbs Digital Telecommunications
Philippines.
b) Consolidation – when two companies combined its assets and/or restructure their debt
profile. Ex.: BSP has announced its plan to launch programs that will encourage more
mergers through consolidation among rural banks.
M&A’s According to Economic Perspective:
a.) Horizontal – when two firms in the same industry combined. Ex.: JFC acquired Chowking
Food Corp.
b.) Vertical – when two companies merged coming from different stages or production or
value chain.
c.) Conglomerate – when two companies from completely unrelated industries merged.
M&A’s Based on Legal Perspectives:
a.) Short-form – when parent purchase more interest from its subsidiary.
b.) Statutory - when a company combines with another where the company, the acquirer,
retains its name.
c.) Subsidiary – the consolidation of the subsidiaries of a holding or parent company.
Five Stages of M&A
1. Pre-acquisition review
- to conduct internal evaluation with regards to the business opportunity.
- may require initial valuation based on ballpark figures.
- this will establish whether an investment opportunity is palatable and worth the
investment.
2. Investment opportunity scanning
- to scan the opportunity for any potential or interest parties.
- an opportunity to gather risk indicators that surrounds the business opportunity.
- due diligence may already begin.
3. Valuation of target investment
- the value of the offer must be relevant, realistic & reasonable.
4. Negotiation
- companies will have to find the common sweet spot.
 - the sensitivity analysis will be given better value and importance since the
investor or seller will know how much price they are willing to give or receive and
how much risk are they willing to take.
5. Integration
- the execution of an agreement and reincorporation is needed.
Considerations to Maximize M&A Opportunity
o Determine the objective behind the acquisition and the benefits expected from the
deal.
o Understand industry of both acquirer and target. (Horizontal or vertical integration)
o Identify key operational advantages of acquirer and target company.
o Check with the acquirer if takeover is friendly or hostile.
o Analyze pre-merger operating and financial performance of acquirer and target
company.
o Evaluate tax position of both companies.

Reasons for the failure of M&A’s

o Poor strategic fit – when companies entered into M&A failed to find ground to align their
mission, vision and goals.
o Poorly executed and ill managed integration phase – setting the wrong foot may lead to
a cliff.
o Inadequate due diligence
o Too aggressive projections and estimates

Major Valuation Methods used in M&A’s

1. Discounted Cash flow method – targets value is calculated based on its projected future
cash flows with appropriate discount rate.
2. Comparable company analysis – relative valuation metrics for public companies are
used to determine the value of the target.
3. Comparable transaction analysis – valuation metrics for past comparable transactions
in the industry are used to determine the value of the target.

 DIVESTITURES
 Definition: refer to the disposal of the assets of an entity or business segment
often via sale to third party.
 Generally, means the sale of any assets that the company owns but is also used
as a term to describe the sale of a non-core business segment.
 A strategy used in portfolio management but is used less frequently to M&A’s.
 Enable companies to improve cash flows, discontinue operating segments that
are not aligned with the strategic direction of the company and create additional
shareholder value.
Rationales behind Divestiture
o Sell non-core or redundant business segments
o Generate additional fund
o Take advantage of resale value of non-performing segments instead of incurring losses
o Ensure business stability or survival
o Adapt to regulatory environment
o Lack of internal talent
o Take advantage of opportunistic offer from third party

Types of Divestitures
1. Partial sell-offs – divesting company only sells portion of the business in order to raise
funds that can be used to fund growth of more productive segments.
 2. Equity carve-out – occurs when IPO is performed for up to 20% ownership of a
subsidiary.
3. Spin-off – business segment of a parent company is separated and is made into an
independent new company.
4. Split-off – business segment of the parent company is also separated and made into an
independent entity, but shareholders are offered the option to exchange parent
company shares for the new company shares or just retain the parent company shares.
Deciding whether to continue, liquidate or divest
o 3 values compared: Going concern value, liquidation value & Divestiture value- refers
to the price that the highest bidder is willing to pay for the investment or asset.
o Between the three, the right alternative to pursue is the option which will yield the
highest value to the seller.
Impacts of divestitures:
o DV = GCV, no impact to the selling company’s value
o DV > GCV, increase the value of the selling company
o DV < GCV, reduce value of the selling company

 OTHER VALUATION TECHNIQUES

ROI-based Valuation Method
 Return on investment – measures the earnings generated by the business in
relation to the investment made to the business.
 A quick computation of company value based on the investment that the
investor is willing to pay for the business.
 Can be useful since they can already get a sense of how much they are okay to
place.
 Very subjective since it will depend on the market.
Additional information necessary to convince the buyer or investor of the result:
o Length of time to recover the investment
o Rate of returns based on expected net income as compared with the initial
amount invested
o Aggressiveness of the assumptions used and end results
o Attractiveness of the investment
Dividend Paying Capacity Method
 Also called Dividend Payout, is conceptually an income-based method but can
also be classified as market approach.
 Somewhat similar to capitalization earnings method.
 Uses estimated future dividends that can be paid out by the business.
 The future dividends are capitalized using five-year weighted average of
dividend yields of other comparable companies.
 Links the relationship of the following variables: (a) estimated number of future
dividends that can be paid out, (b) weighted average dividend yields of
comparable business and (c) estimated value of the business.
 Linked with liquidity.
 Useful in computing the value of the companies that are stable and has history
of consistently paying dividends to their shareholders.
 Preferred in valuation since it links the market price with how much shareholders
really receive as a percentage of the company earnings.