Valuation Snapshot Q2/Q3 2014

Valuation Snapshot Q2/Q3 2014

Welcome to our third issue of Valuation Snapshot, a regular publication created for business advisers.

Indices analysis

In this issue we look at the necessary marriage of statistics and stories in a business valuation, and address the importance of considering a company’s future when valuing it.

PCPI, PERDa & Argos Soditic

An average of the indices suggests a 3% increase in multiples achieved over Q3 2014 that’s nearly back to the levels of March 2008.

greater volatility – especially PCPI – and so should be used with care. This underscores the need to consider a range of benchmarks.

However, the overall pattern is one of relative stability with an increase of not much over 1% over the year.

When undertaking business valuation work corroboration is key, and the valuer must challenge and understand outlying data in order to produce a well reasoned and defensible conclusion.

The individual indices reviewed show much

12.00 11.00 10.00 9.00 8.00 7.00 6.00 5.00 4.00

Average

PERDA

PCPi (EBITDA)

Argos Soditic

Feature

Numbers and narrative

In a recent blog post, Dr Damodaran (Professor of Finance at New York University, and something of a ‘valuation celebrity’) highlights the need for both numbers and narrative when valuing a business.

In a good valuation, the numbers are bound together by a coherent narrative, and storytelling is kept grounded with numbers.

Dr Aswath Damodaran, Professor of Finance at New York University

Safety in numbers?

Beware tall tales

Many valuers suffer from the illusion that numbers ensure precision and objectivity, he explains. Yet figures can be just as biased as words, and worse are protected by the belief that ‘numbers don’t lie’.

To produce a comprehensive valuation, numbers must be tied together by a back story and the underlying nature of the business.

Damodaran underlines a couple of dangers that come with a numbers-heavy approach: 1. valuations are used as mere sales tools or to confirm pre-conceived values.

2. endless line items lead to a business that only exists in ‘spreadsheet nirvana’.

But Damodaran also warns against narratives unrestrained by numbers, which can fast become fairy tales.

Furthermore, relying solely on narrative to value a business makes measuring progress difficult, as it provides no obvious benchmarks.

Feature

Valuers must go ‘back to the future’

Stuck in the past Many valuations focus on a company’s past, quite possibly because historic trading performance is readily available and relatively easy to analyse.

This is certainly helpful in informing a deeper understanding of the business, but it’s important not to get stuck in the past.

Investigating a company’s future can be a more difficult road, but it will yield a better valuation.

Prediction is very difficult... especially if it’s about the future!

Niels Bohr, Philosopher Physicist & Nobel Prize Winner

The future’s important There are two key reasons why it’s worth taking the time to understand a business’s prospects: 1. To judge the appropriate premise of value. A valuer must decide between using a going concern or a liquidation valuation basis. In order to make this decision, they must determine if the business is capable of continuing to trade.

2. Forecasting cash flow. Two key valuation methodologies – capitalised earnings and discounted cash flow – are driven by a view of the business’s future.

If using the former, a valuer must estimate the company’s sustainable profitability and a realistic projected growth rate.

The latter works by discounting a series of forecast cash flows back to today’s value.

Quite apart from the complex issue of choosing an appropriate discount rate, the calculation of forecasted cash flow is often sensitive to the terminal value (what the

business is expected to sell for at the end of the period).

Such methods are not just about the maths. To be applied meaningfully, detailed discussions with management are needed to give the valuer a comprehensive and realistic view of the business’s future.

PEM Valuations

Business valuations for your clients

From time to time, your clients may ask you how to value their business.

or tax reasons. Yet for many advisors, valuations are “not the day job”.

Such requests could be triggered by a shareholder exit, disputes, restructuring

This is where the PEM Valuations Team can help.

Why refer your clients to us?

Focused

Flexible

Our valuations are produced by a specialist, multidisciplinary team with a valuations focus.

We offer both long and short form valuation reports, and our fee levels vary depending on the complexity, nature and purpose of the report required.

Commercial Our real world experience in company sale and purchase negotiation means we don’t just claim to be commercial, we have the transaction record to prove it.

For more information please visit our webpage www.pemcf.com/valuations.

Personal We have a flat structure so clients always receive cost effective senior level attention.

Tailored We do not use a software driven or “form-filling” approach. Our reports are based on a thorough understanding of the business to be valued, and tailored to the specific needs of the owner.

Get in touch 01223 728 280 lake@pemcf.com

PEM Corporate Finance is registered in England and Wales, number OC302288, at Salisbury House, Station Road, Cambridge, CB1 2LA.