Valuation Summary + Questions

3 Main Valuation Methods:

  1. DCF
  2. Public Comps
  3. Precedent Transactions
A common interview question will ask you to rank the 3 valuation methods in terms of the highest to lowest valuation yielded. A response to this would be:
  • Generally, precedent transactions would yield the highest valuation because of the control premium and potential synergies that go into an M&A transaction
  • Depending on one's assumptions and the market environment, DCF and Public Comps can be either high or low
* Unrelated to the 3 main ones, but LBO is usually the lowest because it is a floor valuation where PE firms can earn their target IRR

How to value a private company
  • DCF:
    • FCF projection and Terminal Value calculations are same for public companies
    • But for WACC, private companies don't have an observed equity beta, so you have to use the equity beta from comparable companies in an unlever-relever calculation
  • Public Comps:
    • Apply a discount for the comparable valuation if using publicly traded comps, because a public company has a liquidity premium (10-15%) that investors pay because it's easier to buy and sell in public markets
  • Precedent Transaction
    • Middle market investment banks usually have their internal database of the previous private company M&A transactions they completed and can use these multiples to value similar private companies
Interview Questions:

How would you value a sports team?
  • If we want to value it on a standalone basis, can use DCF. Additional considerations would be your revenue source, e.g. ticket sales, franchise merchandise, and streaming IP revenue. If they are private, we need to calculate WACC using public comps in an unlever-relever calculation
  • We can apply public comps, but incorporate liquidity premium depending on if the sports team is privately held or publicly traded
  • If we want to sell them, use precedent transactions
Which valuation is most affected by the market?
  • Public comps: multiples are based on current market value, the stock market is volatile and valuation will fluctuate depending on market conditions
  • Precedents are affected by premiums. If an industry is hurting or companies are selling for low premiums, then historical precedent multiples may not reflect current market
  • DCF is least affected by the market. It is based on assumptions
Which should be worth more: A $500 million EBITDA healthcare company or a $500 million EBITDA industrials company?
  • Assuming growth rates, margins, and all other financial stats are the same
  • It is likely that the healthcare company is worth more, because healthcare is a less asset-intensive industry. This means the company's Capex and working capital requirements will be lower, and FCF will be higher as a result
When are public comps or precedent transactions more useful than the DCF?
  • When it's difficult to estimate a company's future cash flows or don't have enough info to make forecasting assumptions
  • e.g. early stage startup
Would a DCF be more applicable to a tech startup or a manufacturing company?
  • Manufacturing company
  • Startups may have losses and negative FCF, whereas manufacturing company likely has stable, predictable cash flows, so it is easy to define multiples
We always use P/E and EV/EBITDA, why can’t we use Equity Value/EBITDA or EV/NI?
  • We want to do an apples-apples comparison: stock price and EPS are both applicable to shareholders, but enterprise value and EBITDA are for all investor groups, not only equity holders. Thus it is appropriate to mix and match between metrics that are available to different groups of investors
What conclusions can we draw about a company’s CapEx if EBITDA is much larger than EBIT?
  • If EBITDA is larger than EBIT, it means D&A is significant
  • Companies that are capital intensive will likely have more depreciation because depreciation is tied to Capex
Could EV/EBITDA ever be higher than EV/EBIT for the same company?
  • No. EBITDA by definition must be greater or equal to EBIT
If you were buying a vending machine business, would you pay a higher EBITDA multiple for a business that owned the machines, or leased them? (Assume depreciation expense and lease expense are the same in magnitude)
  • Leased
  • EV would be the same, but less expense is factored into EBITDA while depreciation is not. Thus, the EBITDA for the leased version is lower which yields a higher multiple
  • To compare the 2 acquisitions, it would be better to use EV/EBIT so that this difference is avoided
How do you value a company with no revenue?
  • DCF: forecast the cash flows far into the future
  • No revenue means you can't use any financial-based multiples, but can use non-financial multiples, like EV/Pageviews, EV/Users, EV/Subscribers

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