G1 uncertainties that can affect one’s

business operation

VALUE DIFFERENT CONCEPTS OF VALUE

 what determines how much something is valuation is based on economic factors, industry
worth, whether it's an estimate or a specific variables, and the analysis of financial statements and
number the entire outlook of the firm
VALUATION
 estimation of an asset's value based on Intrinsic Value
variables perceived to be related to future  concept based on an asset's theoretical 'true
investment returns, on comparison with worth' and is determined by its record and
similar assets, or when relevant, on estimates potential earning power
of immediate liquidation proceeds  also called fundamental value
 it is the true value of an asset
FUNDAMENTAL EQUATION OF VALUE  actual value of a company or an asset instead
 based on the principle popularized by Alfred of its market value
Marshall that a company creates value if and  fair or inherent value of any asset (whether
only if the return on capital invested exceed real or financial) company, its stock,
the cost of acquiring capital derivatives, options, etc
 value can be created from the difference of
the capital invested to the cash inflows Going Concern Value
generated through the capital investment  value of an asset to the enterprise as a going
wherein this point of view of the shareholders concern or the value of an asset 'in use"
of a certain company includes the periodicity  Most business valuations will be prepared
of the money gained and risks premium from based on a going concern
the challenged taken by the shareholders on  The value of the firm as an operating business
their investment as every business have their 
respective risk associated Book Value
 amount at which an asset or liability is
VALUE OF BUSINESS CAN BE LINKED INTO 3 MAJOR recorded on the entity's books of accounts
FACTORS  also called carrying value or carrying amount.
 Current operations  the accounting value of a firm or an asset
o focus on the day-to-day activities of
the business which correspond to the Liquidation Value
operating performance of the firm in  net amount that would be gained if a
the recent year measured using the business is terminated and its assets are sold
key metrics of revenue, profitability, off piece by piece
market share and operational  value of the company is calculated under the
efficiency assumption that it will shut down, and its
 Future prospects assets will be sold separately through a
o emphasize on the long-term and liquidation process
strategic direction the business can
grab and grow their business into Fair Market Value
such as expanding the business in  the price at which a property would be
terms of its location and operation exchanged between a hypothetical buyer and
matters seller, both willing and able, in an open and
 Embedded risk unrestricted market
o emphasize that the possible value of  transaction occurs at arm’s length, meaning
a business is embedded with risks, both parties are independent and acting in
meaning doing business or operating their own best interest
a business an individual should expect
risk including possible challenges and
ROLES OF VALUATION
 o change in people managing the
Portfolio Management organization brought about by the
 process of making informed investment acquisition
decisions based on the valuation of assets Corporate Finance
within a portfolio  deals with prioritizing and distributing
 selecting, overseeing, and adjusting a financial resources to activities that increase
collection of investments to achieve specific firm value.
financial objectives while managing Small private businesses
riskCorporate Finance Larger companies
Fundamental Analysts o Legal and Tax Purposes
 persons who are interested in understanding - when a new partner joins a
and measuring intrinsic value of a firm partnership or an existing
Activists Investors partner retires, the entire
 tend to look for companies with good growth partnership needs to be
prospects that have poor management valued to determine the
Chartists appropriate buy-in or sell-out
 rely on the concept that stock prices are amount
significantly influenced by how investors
think and act THE VALUATION PROCESS
Information Traders Step 1: Understanding of the business
 react based on new information about firms  Industry Structure - the inherent
that are revealed to the stock market technical and economic characteristics
of an industry and the trends that may
Analysis of Business Transactions/Deals affect this structure
 Acquisition - usually has two parties: the  Industry Characteristics - these are
buying firm and the selling firm. The buying true to most, if not all, market players
firm needs to determine the fair value of the participating in that industry.
target company prior to offering a bid price.
 On the other hand, the selling firm (or Poster’s Five Forces is the most common tool used to
sometimes, the target company) should have encapsulate industry structure:
a sense of its firm value, as well to gauge  Threat of New Entrants
reasonableness of bid offers  Threat of Substitutes
Merger  Competetive Rivalry
 transaction two companies’ combined to  Bargaining of Power of Suppliers
form a wholly new entity. An example is the  Bargaining Power of Buyers
merger of Divestiture Sale of a major
component of segment of a business Michael Porter, there are generic corporate strategies
Spin-off to achieve competitive advantage
 Separating a segment or component business Cost Leadership
and transforming this into a separate légal  incurring the lowest cost among market
entity whose ownership will be transferred players with quality that is comparable to
to shareholders competitors allow the firm to price products
Leveraged buyout around the industry average
 acquisition of another business by using Differentiation
significant debt which uses the acquired  firms tend to offer differentiated or unique
business as a collateral product or service characteristics that
customers are willing to pay for an additional
2 Important, Unique Factors premium
 synergy Focus
o potential increase in firm value that  firms are identifying demographic segment
can be generated once two firms or category segment to focus on by using cost
merge with each other leadership strategy or differentiation strategy
 control
 (a) on a macro perspective viewing the economic
environment and industry where the firm operates in
(b) on a micro perspective focusing in the firm's
financial and operating characteristics

TOP-DOWN FORECASTING APPROACH

 Forecast starts from international or national
macroeconomic projections with utmost
consideration to industry-specific forecasts
 analysts select which are relevant to the firm
and then applies this to the firm and asset
forecast.
 In top-down forecasting approach, the most
common variables include GDP forecast,
consumption forecasts, inflation projections,
foreign exchange currency rates, industry
sales and market share

BOTTOM-UP FORECASTING APPROACH

 Forecast starts from the lower levels of the
firm and is completed as it captures what will
happen to the company based on the inputs
Based on AICPA guidance, other red flags that may of its segments/units
indicate aggressive accounting include
the following: Step 3: Selecting The Right Valuation Model
• Poor quality of accounting disclosures, such as  The appropriate valuation model will depend
segment information, acquisitions, on the context of the valuation and the
accounting policies and assumptions, and a lack of inherent characteristics of the company
discussion of negative factors. being valued. Details of these valuation
• Existence of related-party transactions or excessive models and the circumstances when they
officer, employee, or director loans. should be used will be discussed in succeeding
• Reported (through regulatory filings) disputes with chapters.
and/or changes in auditors. Step 4: Preparing valuation model based on forecasts
• Material non-audit services performed by audit firm.  Once the valuation model is decided, the
• Management and/or directors' compensation tied to forecasts should now be inputted and
profitability or stock price (through converted to the chosen valuation model.
ownership or compensation plans) This step is not only about manually encoding
• Economic, industry, or company-specific pressures the forecast to the model to estimate the
on profitability, such as loss of market value
share or declining margins.  To do this, two aspects should be considered:
• High management or director turnover. o sensitivity analysis
• Excessive pressure on company personnel to make o situational adjustment
revenue or earnings targets,
particularly when management team is aggressive Step 5: Applying valuation conclusions and providing
• Management pressure to meet debt covenants or recommendation
earnings expectations.  Once the value is calculated based on all
• A history of securities law violations, reporting assumptions considered, the analysts and
violations, or persistent late filings. investors use the results to provide
recommendations or make decisions that
Step 2: Forecasting financial performance suits their investment objective
KEY PRINCIPLES IN VALUATION
FORECASTING FINANCIAL PERFORMANCE CAN BE  The value of a business is defined only at a
LOOKED AT TWO LENSES: specific point in time
 o The recorded transactions (earnings, Valuation Methods/Techniques
cash position, working capital,  Market Approach
market conditions) affect the o Utilizes prices and data from
business's current valuation. transactions involving similar
o Historical data may not reflect the assets/liabilities.
present value, emphasizing the o Includes market multiples and matrix
importance of up-to-date valuations. pricing for comparisons.
 Value primarily varies in accordance with the  Income Approach
capacity of a business to generate future cash o Converts future amounts (cash flows,
flow income/expenses) into a discounted
o Valuation hinges on the capacity to present value.
generate future cash flows. o Considers risk and uncertainty;
o Historical earnings help predict techniques include present value
future results, with cash flow models, option pricing, and multi-
considering capital investments, period excess earnings methods.
working capital changes, and taxes.  Asset/Cost Approach
o Comprehensive and reliable o Represents the replacement cost of
forecasting of future cash flows is an asset adjusted for obsolescence.
critical for validation. o Techniques include the Book Value
 The market commands what the proper rate Method and Adjusted Book Value
of return for investors Method.
o Market forces guide the expected
rate of return for investors. Risk in Valuation
o Understanding the market rate helps  Reflects uncertainty in the difference
determine the discount rate, between reported fair value and the
impacting investment decisions. potential trade price at the valuation date
 The value of a business may be impacted by
underlying net tangible assets c
o Higher net tangible assets generally
equate to higher going concern value.
INTRODUCTION TO MARKET AND INCOME
o Provides security for financing and
APPROACH
lowers investment risks due to asset
 Introduction to Valuation
liquidation potential.
o Estimating an asset's value can
involve evaluating replacement costs,
 Value is influenced by transferability of
analyzing recent comparable sales, or
future cash flows
assessing potential revenue.
o Transferability depends on factors
o The choice of approach depends on
like client relationships and
the asset type, valuation goals, and
operational independence.
available information.
o Strong systems, customer loyalty, and
o Understanding what influences an
reduced owner dependence increase
asset's worth is essential for sound
value.
financial decision-making.
 Applications of Valuation
 Value is impacted by liquidity
o Real estate assets require
o Value is influenced by demand and
understanding current market value
supply.
for fair pricing.
o Greater buyer interest and
o Business owners assess company
competitive pressure can enhance
value for securing investments or
business value.
loans.
o Sellers must attract and negotiate
o Accurate valuation considers
effectively to maximize valuation
replacement costs, income potential,
and market trends.
  Valuation Approach Defined for differences like size, location,
o Refers to the methodology used to condition, and unique features.
determine an asset's fair market o Reflects current market trends and
value. external factors (e.g., neighborhood
o Supports fair pricing, informs safety, proximity to amenities).
investment strategies, and facilitates o Adapts to fluctuating markets by
financial processes. considering buyer preferences, market
o Common purposes include selling trends, and supply-demand dynamics.
businesses, securing financing,
mergers/acquisitions, tax liability Two Primary Methods Used for Valuing Assets Under
determination, and dispute the Market Approach
resolution. 1. Public Company Comparable (Public Comps)
Three Primary Methods Under the Valuation o Analyzes publicly traded companies in
Approach the same industry with similar size
 Market Approach and growth potential.
o Evaluates value based on prices of o Offers a market-based valuation
comparable assets, investments, or reference by leveraging metrics such
businesses. as:
 Income Approach  Price-to-Earnings (P/E) ratio
o Estimates value based on an asset's  Enterprise Value-to-EBITDA
future income potential. (EV/EBITDA)
 Cost Approach  Price-to-Sales (P/S) ratio
o Considers the replacement cost of an o Example: To value a clothing line,
asset, adjusted for obsolescence. compare financial metrics of rivals like
Penshoppe, Zara, Uniqlo, and H&M.
Significance of Market and Income Approaches 2. Precedent Transactions Method
 Widely applied for realistic and accepted o Derives value using pricing multiples
valuation estimates. based on recent transactions of
 Crucial for professionals in real estate, companies in the same industry.
finance, and property management. o Useful when comprehensive company
 Provide actionable insights for asset financial data isn't available but
valuation and informed investment decisions transaction values are.
o Example: To value Ortigas Real Estate
Market Approach Company, examine recent sales of
Key Points similar companies in the real estate
 Definition and Overview industry.
o Determines an asset's value based on o Commonly Used Metrics:
the selling prices of similar assets in  Transaction multiples like
the open market. EV/Revenue or EV/EBITDA
o Focuses on actual transactions rather based on past purchase
than theoretical concepts or complex prices.
calculations.
o Provides practical insights into value How the Market Approach Works
by reflecting the opinions of buyers  Examines recent transactions of comparable
and sellers. assets to determine fair market value.
 Benefits and Application  Adjustments are made for differences
o Relies on tangible data, making it between the assets to ensure accurate
particularly effective for both tangible valuation.
and intangible assets.  Works well in markets with abundant data,
o Ensures accurate comparisons by such as publicly traded shares or residential
analyzing recent sales and adjusting real estate.
 Can be challenging in markets with limited
data (e.g., private companies, alternative
 assets like wine or fine art), requiring c. Uniform Variables
alternate methods like the cost approach  Use consistent financial metrics for all
comparisons (e.g., P/E Ratio for all companies
Market Approach or EV/EBITDA for all).
Steps on How the Market Approach Works  Switching between ratios for different
1. Identify Comparable Assets companies leads to unreliable comparisons.
o Locate similar assets or businesses d. Comparable Observation Periods
sold recently that align in industry,  Match time periods to avoid cyclical or
size, growth potential, etc., to help seasonal discrepancies.
determine the fair market value.  Example: Comparing McDonald’s Q3 2023
2. Gather Market Data earnings to Q1 2022 would result in
o Collect relevant market data from inconsistencies due to differing economic
comparable assets, including sale conditions.
prices, valuation multiples, and e. Consider Non-Quantitative Factors
financial metrics.  Assess intangible qualities like brand
3. Adjust for Differences reputation, leadership, innovation, and market
o Make necessary adjustments for position.
variations such as size, profitability, or  Example: Tesla’s premium stock valuation
location between the comparable and stems from its brand value, innovation, and
target assets. Elon Musk’s influence, despite lower financial
4. Apply Valuation Multiples ratios compared to traditional automakers like
o Use applicable valuation multiples Ford.
(e.g., earnings or revenue) from
comparable data and apply them to Price Earnings Ratio (P/E Ratio)
the target asset. Represents the relationship between the market value
5. Determine the Value per share and earnings per share (EPS). It signals how
o Calculate the estimated value of the much the market values a company relative to its
asset or business using the gathered actual earnings.
data, valuation multiples, and P/E Ratio=Market Value per Share÷Earnings per Share
adjustments to establish the fair Where:
market value.  Market Value per Share: The current market
How to Calculate the FMV of an Asset Under the price of one share.
Market Approach  Earnings per Share (EPS):
Comparable Company Analysis (CCA): Net Income÷Number of Shares Outstanding
 A technique using growth and performance
drivers to estimate an asset’s value by Book-to-Market Ratio
comparing it to similar businesses. This ratio compares the company’s book value
Key Factors in CCA: (accounting value from the balance sheet) to its
a. Industry Similarity market value, showing how the market appreciates
 Compare only within the same industry to the company compared to its recorded equity.
avoid misleading information caused by Book-to-Market Ratio=Net Book Value per Share÷Ma
varying industry dynamics. rket Value per Share
 Example: Comparing Apple and Samsung’s Where:
price-earnings ratios (both technology  Net Book Value per Share:
companies) versus comparing Apple to Ford Total Equity÷Number of Shares Outstanding
(car manufacturer).
b. Avoid Comparing Absolute Values Dividend Yield Ratio
 Avoid revenue-based comparisons since they Shows the relationship between dividends received
overlook expenses. Instead, use ratios like: per share and the market price of the company’s
o Price-Earnings (P/E) Ratio shares. It measures the return an investor gets from
o EBITDA Ratio dividends relative to the stock price.
 These provide a clearer view of profitability Dividend Yield Ratio=Dividend per Share÷
and operational efficiency. Market Value per Share
Where: o Limited comparable transactions may
 Dividend per Share: Total dividends declared result in unreliable valuations.
÷\div÷ Number of Shares Outstanding. 3. Lacks Flexibility:
o Cannot easily incorporate future
EBITDA Multiple growth potential or qualitative factors
Measures the company's Enterprise Value (EV) like competitive advantages.
relative to its EBITDA. This ratio is commonly used for 4. Data Quality Concerns:
valuation comparisons across companies, as it o The method depends on accurate,
accounts for differences in capital structure, taxation, complete, and timely data, which may
and fixed assets. not always be available.
EBITDA Multiple=Market Value per Share÷EBITDA
per Share Importance of the Market Approach
Where: 1. Objectivity and Transparency:
 Enterprise Value (EV): Market capitalization o Grounded in real-world data, making
plus net debt. it defensible in legal disputes, tax
 EBITDA: Earnings before interest, taxes, assessments, and negotiations.
depreciation, and amortization. 2. Alignment with Market Realities:
o Reflects current buyer and seller
Each ratio provides unique insights into the company's behavior, providing realistic
value, performance, or appeal to investors: valuations.
 P/E Ratio: Highlights market perception vs. 3. Benchmarking and Comparisons:
earnings. o Enables comparison with competitors
 Book-to-Market Ratio: Shows market or similar assets to inform strategic
appreciation vs. recorded equity. decisions.
 Dividend Yield Ratio: Focuses on return from 4. Wide Applicability:
dividends. o Adaptable across industries and asset
 EBITDA Multiple: Provides a normalized types, as long as comparable data is
valuation tool for comparisons. available.

Advantages of the Market Approach Additional Insights on the Market Approach

1. Straightforward and Simple: 1. Price Focus:
o Uses basic arithmetic and comparative o Emphasizes prices over quantities or
analysis, making it accessible and less other variables for valuation.
error-prone. 2. Valuing Companies:
2. Real and Public Data: o Utilizes historical share sales to
o Grounded in actual market determine a company’s fair market
transactions, ensuring transparency value.
and verifiability. 3. Business Buyouts:
3. Objective, Not Speculative: o Assists in equitable revenue
o Relies on historical market data rather distribution during business
than subjective forecasts of future acquisitions or partner buyouts.
performance. 4. Taxation:
4. Reflects Real-Time Market Conditions: o Used by tax authorities for fair
o Uses recent transactions, offering an market-based tax calculations.
up-to-date perspective aligned with 5. Conflict Resolution:
current buyer and seller behavior. o Provides an objective basis for
valuations, useful in legal disputes or
Disadvantages of the Market Approach settlements.
1. Difficulty in Finding Comparables:
o Challenges arise when there are no
similar transactions, particularly in Conclusion
niche or unique markets.
2. Insufficient Data:
The market approach is a widely trusted valuation o A valuation method used by real
method due to its reliance on actual market data, estate owners to determine the value
objectivity, and real-world alignment. However, of income-generating properties.
professionals must acknowledge its limitations, o Calculated by subtracting all necessary
including dependency on quality data and challenges operating expenses from the
in identifying true comparables, to ensure accurate property’s total revenue.
and reliable valuations. 2. Expenditure Approach:
o Another method for measuring GDP
by summing expenditures on final
INCOME APPROACH goods and services within an
 One of the three major approaches to economy.
property valuation. 3. Gross Domestic Product (GDP):
 Focuses on the present value of future income o The total value of all final goods and
generated by a property. services produced within a country
 Especially useful for properties generating during a specific time period.
income (e.g., rental properties, commercial
structures, enterprises). Income Approach to GDP Measurement
 Helps investors optimize profits by  The value of GDP is assessed by the earnings
determining the profitability of an investment of production components:
and comparing it with other potential o Labor earns wages
investments. o Capital earns interest
 The value of a property is proportional to the o Land earns rent
revenue it may generate over its useful life. o Entrepreneurship earns profit
 The process includes:
Income Approach and GDP o Adding wages, interest, rent, and
 The income approach measures a country’s profit to calculate net domestic
Gross Domestic Product (GDP). income at factor cost.
 GDP represents the total value of all goods o Adjusting from factor cost to market
and services produced within an economy. price by considering indirect taxes and
 It sums the compensation of employees, gross subsidies.
operating surplus, and mixed income to o Adding depreciation, reflecting the
determine the overall value generated by loss in capital value over time.
production components like land, labor,
capital, and entrepreneurship. Two Primary Methods for Valuing Assets under the
 This approach offers insight into income Market Approach
distribution and can examine economic 1. Capitalization Method:
inequality and living standards. o Used to estimate the value of income-
generating real estate based on
Income Approach for Real Estate Investment potential income.
 Determines the worth of a property based on o Involves converting economic benefits
the income it will generate for the investor. from a single period to value through
 Used by investors to analyze and estimate a capitalization rate.
present and potential returns when selling a o Key components:
property.  Net Operating Income (NOI):
 Essential for investors, as a property’s rental Income after all operating
revenue must exceed its operational costs costs are deducted.
(e.g., maintenance, repair).  Capitalization Rate (Cap
 Protects both investors and lenders in case of Rate): Expected rate of return,
a mortgage. reflecting market risks.
2. Discounted Cash Flow (DCF) Method:
Related Terms in Income Approach
1. Net Operating Income (NOI):
 o Calculates the present value of future o Establish a discount rate based on
expected cash flows using a discount property income risks and time value
rate. of money.
o Accounts for the time value of money 7. Calculate Terminal Value (if necessary):
(money today is worth more than o Estimate the property’s value beyond
money tomorrow). the forecast period and discount it
o Key components: back to the present.
 Future Cash Flows: Expected 8. Final Valuation:
earnings over time (e.g., o Add the results from the chosen
rental income). valuation methods and present the
 Discount Rate: The required overall value in terms of present value
rate of return, affected by
market conditions and How to Calculate the Value of an Asset Under the
investment risks. Income Approach?
 Terminal Value: The
estimated value of the  Calculate the Gross Annual Income
property or investment at the o Gross Annual Income =Monthly Rent
end of the forecast period. per Unit × Number of Units × 12

How Market Approach Works  Calculate the Net Operating Income (NOI)
 The income approach is one of the three o NOI= Gross Annual Income - Annual
primary methods for valuing real estate. Operating Expenses
 Commonly used for assets generating income.  Estimate the Property Value using the Cap
 The income approach establishes property Rate
value by converting future cash flows to a o Property Value = NOI ÷ Cap Rate
present value.  Calculate the effective gross income (EGI)
 It’s crucial when the income-producing ability o EGI = Gross Rental Income - Vacancy
of the property is the most significant factor. and Credit Loss
 Example properties include offices, shopping  Calculate the net operating income (NOI)
malls, and residential towers. o NOI = EGI - Operating Expenses
 Determine the value of the property using
Steps on How the Income Approach Works the income approach
1. Identify the Possible Income: o Property Value = NOI ÷ Cap Rate
o Evaluate the property’s ability to
generate cash flows (e.g., rental rates,
contracts). Advantages of Income Approach
2. Estimate Future Cash Flows:  Income Potential and Risk Consideration:
o Project future cash inflows and o Considers the income potential and
outflows, such as rental income and risks associated with the property
operating costs. (e.g., vacancy, operating expenses,
3. Calculate Net Operating Income (NOI): market conditions).
o Subtract operating expenses from o Accounts for the time value of money
total income to determine the NOI. (a dollar today is worth more than a
4. Choose a Valuation Method: dollar in the future).
o Decide whether to use the o Discounts future income streams to
Capitalization Method or the present value, capturing the
Discounted Cash Flow (DCF) Method. opportunity cost of investing in a
5. Use the Discounted Cash Flow (DCF) Method property.
(if applicable):  Reliance on Observable Data:
o Apply the appropriate formula to o Based on observable and verifiable
calculate present value. data, such as income and expenses
6. Determine the Discount Rate: from the owner, tenant, or market.
 o Does not rely on subjective factors o Rental rates, operating expenses,
(personal preferences or emotions of vacancy rates, capitalization rates, tax
buyer/seller) that may affect property liabilities, etc.
value.  Helps Investors Make Informed Decisions:
 Versatility Across Property Types: o Assists in evaluating whether an
o Can be used to value a variety of investment is suitable and maximizing
income-generating properties, returns.
regardless of type, location, condition,  Real Estate Valuation:
or design. o Particularly useful for commercial
o Useful for unique or specialized properties (e.g., office buildings,
buildings, or properties with few shopping centers, apartment
comparable sales. complexes).
o The property’s value is directly linked
Disadvantages of Income Approach to its ability to generate income.
 Complexity and Sensitivity:
o Requires a lot of variables and Reasons for the Importance of the Income Approach
estimates, which may lead to 1. Accurate Valuation:
inaccuracies in forecasting future o Provides a more accurate property
income and expenses. valuation compared to other methods
o Sensitive to changes in assumptions, (e.g., cost approach), as it considers
such as the capitalization or discount income generation, not just physical
rate, which vary depending on factors characteristics.
like market conditions and the 2. Investment Decisions:
property’s growth potential. o Crucial for investors purchasing
 Inability to Capture Future Opportunities: income-generating properties, helping
o May not capture a property’s full them determine the potential income
potential, as it is based on current or and make informed decisions.
expected income, not its highest 3. Financing:
potential (e.g., redevelopment, o Lenders use the income approach to
expansion). assess a property’s value when
o Can undervalue properties with deciding whether to provide
higher alternative uses. financing. Properties with high income
 Limited Application: potential are more likely to be
o Not applicable to properties that do approved.
not or cannot generate income (e.g., 4. Property Taxes:
owner-occupied homes, public o Local governments use the income
buildings, historical landmarks). approach to set fair property tax rates
o May not reflect the value placed by based on the property’s potential
buyers or sellers on properties driven income.
by non-economic factors (e.g., 5. Market Trends:
prestige, personal gain). o Takes into account market trends and
economic conditions that affect
Importance of Income Approach property value (e.g., increased
 Widely Used Method: demand for office space raising
o One of the most commonly used property value).
methods for evaluating real estate
investments. Summary
o Involves analyzing potential cash flows  The income approach is essential for
to determine a property’s present evaluating real estate investments by
value. assessing a property’s ability to generate
 Factors to Consider: future cash flows.
 Focuses on calculating net operating income
and discounting it to present value using
 methods like the Capitalization Method and net assets. A low P/B ratio might suggest that the
Discounted Cash Flow (DCF) Method. stock is undervalued.
 Especially useful for investors who value a Formula: P/B Ratio = Market Price per Share / BVPS
property’s income-generating ability. ( Book Value per share)
 While the approach’s accuracy depends on
forecasts and assumptions about future Price-To-Book Value (P/BV) Ratio
income and expenses, it remains a vital Similar to the P/B ratio but focuses specifically on the
method for property valuation, providing book value of equity. It's used to compare a
important information about a property’s company's market value to the value of its assets as
investment potential and financial stability. recorded on the balance sheet.
Formula: P/B Ratio = Market Price per share / BVPS
G3 ( Book value per share)
RELATIVE VALUATION AND ASSET BASED VALUATION
 Relative valuation is a method of valuing an EV/EBITDA
asset by comparing it to a group of similar ● Enterprise Value (EV): This represents the total
assets, also known as a "peer group". This theoretical cost of acquiring a company. It includes the
method is used for many assets, including real market value of equity, debt, and preferred stock,
estate, stocks, and private companies. minus cash and cash equivalents.
 Asset-based valuation is the most widely ● Earnings Before Interest, Taxes, Depreciation, and
acknowledged approach for valuing a Amortization (EBITDA): This measure represents a
company among other available company's operating profit. It excludes non-operating
methodologies. expenses like interest and taxes, as well as non-cash
expenses like depreciation and amortization.

5 STEPS IN PERFORMING COMPARABLE ANALYSIS Other Prominent Valuation Ratios

● Price to Free Cash Flow (P/FCF): Measures the price
A. Select Comparable Companies: Choose companies of a company's share relative to the cash flow
in the same industry with similar size, growth rate, generated per share. It's used similarly to P/E ratios for
and financial structure. comparing firms within an industry and the broader
B. Gather Financial Data: Collect financial metrics like market.
revenue, profit margins, and growth rates for these Formula: P/FCF = Market price per share / free cash
companies. flow per share
C. Calculate Valuation Ratios: Use ratios like Price-to- ● Operating Margin: Focuses on profit from 1 peso of
Earnings (P/E), Price-to-Book (P/B) and EV/EBITDA. sales. Indicates the risk level associated with investing
D. Apply Ratios to the Target Company: Use these in the company.
ratios to estimate the value of the company being Formula : Operating Margin = Operating income /
analyzed by comparing it to the selected comparables. Revenue
E. Adjust for Differences: Make any necessary ● Return on Equity (ROE): Measures a firm's
adjustments for unique aspects of the target company effectiveness at generating profit from shareholders'
that might not be captured by the comparables. equity:
Formula: ROE = Net income / Shareholder Equity
Price Earning Ratios ● Price-to-Sales (P/S) Ratio: This ratio compares a
Price-to-Earnings (P/E) Ratio is a popular metric used company's stock price to its revenue. It's particularly
to gauge a company's valuation. useful for valuing companies with low or negative
It’s calculated by dividing the company's stock price by earnings.
its earnings per share (EPS): Formula: P/S Ratio = Market Capitalization / Revenue
Formula: P/E Ratio = Price per share / Earnings per ● Dividend Yield: This measures how much a
share company pays out in dividends each year relative to its
stock price, which can indicate the potential income
Price-To-Book (P/B) Ratio return from owning the stock.
This measures the market's valuation of a company Formula: Dividend yields = Annual Dividend per
compared to its book value. Essentially, it indicates share / Market price per share
how much investors are willing to pay for a company's
● Price-to-Earnings Growth (PEG) Ratio: This adjusts 3. Determine a range of valuation multiples
the P/E ratio by incorporating the company's earnings
When a shortlist is prepared (following steps 1 and 2),
growth rate, providing a more balanced view of a
the average, or selected range, of valuation multiples
company’s valuation by considering its growth
can be calculated.
potential.
Formula: PEG Ratio = P/E ratio / Earnings Growth Rate The most common multiples for precedent transaction
analysis are EV/EBITDA and EV/Revenue. An analyst
The following are the steps in performing precedent may exclude any extreme outliers, such as
analysis: transactions that had EV/EBITDA multiples much
lower or much higher than the average (assuming
1.Search for relevant transactions, there is a good justification for doing so).
The process begins by looking for other transactions
that have happened in (ideally) recent history and are 4. Apply the valuation multiples to the company in
in the same industry. question

After a range of valuation multiples from past

The screening process requires setting criteria such as: transactions has been determined, those ratios can be
● Industry classification applied to the financial metrics of the company in
question.
● Type of company (public, private, etc.)
For example, if the valuation range was:
● Financial metrics (revenue, EBITDA, net income)
● 4.5x EV/EBITDA (low)
● Geography (headquarters, revenue mix, customer
mix, employees) ● 6.0x EV/EBITDA (high)

● Company size (revenue, employees, locations) And the company in question has an EBITDA of $150
million.
● Product mix (the more similar to the company in
question, the better) The valuation ranges for the business would be:

● Type of buyer (private equity, strategic/competitor, ● $675 million (low)

public/private) ● $900 million (high)
● Deal size (value) Enterprise Value / EBITDA
● Valuation (multiple paid, i.e., EV/Revenue, - this ratio is calculated by measuring the Enterprise
EV/EBITDA, etc.) Value of your range of precedents by their earnings
2. Analyze and refine the available transactions before interest, tax, depreciation, and amortization.

● Once the initial screen has been performed and the ● Enterprise Value (EV)
data is transferred into Excel, then → The numerator, the enterprise value, calculates the
● it’s time to start filtering out the transactions that value of a company’s operations.
don’t fit the current situation. ● EBITDA → EBITDA
● In order to sort and filter the transactions, an stands for “earnings before interest, taxes,
analyst has to “scrub” the transactions by carefully depreciation, and amortization”, and is a widely used
reading the business descriptions of the companies on proxy for a company’s core operating cash flows
the list and removing any that aren’t a close enough
fit. The simple formula for Enterprise Value:

● Many of the transactions would have missing and ● EV = Market Capitalization +Total Debt – Cash and
limited information if the deal terms were not publicly Equivalents
disclosed. The analyst will search high and low for a The extended formula for Enterprise Value:
press release, equity research report, or another
source that contains deal metrics. If nothing can be
found, those companies will be removed from the list.
EV = Common Shares + Preferred Shares + Market ● Revenues- refers to the cash inflows from regular
Value of Debt + Noncontrolling Interest – Cash and business activities, which includes returned sales
Equivalents discounts and deductions

Example of Enterprise Value: Formula for Revenue:

Imagine that Company A has 500,000 in market ● EV = Market Capitalization + Market Capitalization
capitalisation, cash and cash equivalents of 10,000, +Total Debt – Cash and Equivalents
and a total debt of 100,000.
● Revenue = No. of Units Sold * Average Selling Price
Company B, on the other hand, has 500,000 in market
Examples:
capitalisation, 50,000 in cash/cash equivalents, but no
debt. If an Shoes store sells 40 pair of shoes,the average
selling price is 500.00 per shoes . The total revenue is
Solution:
20,000
Company A: 500,000+100,000-10,000=590,000
Formula for EV/Revenue
Company B: 500,000-50,000=450,000
EV/R= Enterprise value/Revenue
As you can see, Company B is substantially cheaper to
where:
buy because there aren't any debts that need to be
paid off. Enterprise Value=MC+D−CC
Formula for EBITDA: MC=Market capitalization
● EBITDA = Net Income + Interest + Taxes + D=Debt CC=Cash and cash equivalents
Depreciation + Amortization.Or EBITDA = Operating
Profit + Depreciation + Amortization Advantages and Drawbacks to Relative Valuation

The formula for calculating the EV/EBITDA is as A. Ability to measure a company's performance in
follows: relation to the wider market and its major
competitors.
● EV/EBITDA = Enterprise Value ÷ EBITDA
B. Capability to apply various valuation ratios that can
At their simplest, the two metrics can be calculated output a complete picture on the true value of a
using the following formulas: security within a given industry (transcending stock
price in the case of public companies).
● Enterprise Value (EV) = Equity Value + Net Debt
C. Power to value a company without accessing
● EBITDA = EBIT + Depreciation + Amortization
proprietary data (comparing the value to public
EV/EBITDA Ratio:
companies or previous transactions within private
1.Undervalued: EV/EBITDA < 8-10 markets).

2.Fairly Valued: EV/EBITDA =10-15 D. Can be conducted through simple observation

techniques by the wider public and brokers (when
3.Overvalued:EV/EBITDA > 15-20
considering the stock market).
2. Enterprise Value / Revenues
There are two method under Relative Valuation:
- The Enterprise Value to Revenue Multiple is a
1) Comparable Company Analysis - focuses on
valuation metric used to value a business by dividing
assessing a company's value by comparing it to similar
its corporate value (equity plus debt minus cash) by its
companies in the market, providing a snapshot of how
annual revenue.
the company is valued relative to its peers.
● Enterprise Value (EV) → The numerator, the
2) Precedent Transaction Analysis - examines past
enterprise value, calculates the value of a company’s
transactions in the same industry to establish
operations.
valuation benchmarks based on historical deal
multiples.
Commonly used methods to determine the value Steps in determining the equity value using the
using assets as its bases are: replacement value method are as follows:

1. Book Value Method 1. Calculate the replacement value of the affected

items.
2. Replacement Value Method
2. Add back the unadjusted components
3. Reproduction Value Method
3. Apply the Replacement Value Formula
4. Liquidation Value Method
To illustrate, following through the given information
Book Value Method
for Grapes and Vines Corp., suppose that 50% of the
-The term book value derives from the accounting non-current assets has an estimated replacement
practice of recording as set value at the original book value of 150% of its recorded net book value while the
value historical cost in the books. remaining half has estimated replacement value of
75% of their recorded net book value. With the given
● It serves as the total value of the company's assets information, the equity value is adjusted:
that shareholders would theoretically receive if a
company was liquidated. Step 1: Calculate the replacement value of the
affected items
● When compared to the company's market value,
book value can indicate whether a stock is under- or Step 2: Add back the unadjusted components
overpriced.
Step 3: Apply the Replacement Value Formula
Replacement Value Method
Reproduction Value Method
-The National Association of Valuators and Analysts
Steps in determining the equity value using the
has defined the replacement cost as the cost of similar
reproduction value method are as follows:
assets that have the nearest equivalent value as of the
valuation date. 1. Conduct reproduction costs analysis on all assets

The following are the factors that can affect the 2. Adjust the book values to reproduction costs values
replacement value of an asset: (similar as replacement value)

● Age of the asset - It is important to know how old 3. Apply the replacement value formula using the
the asset is. This will enable the valuator to determine figures calculated in the preceding step
the costs related in order to upkeep a similarly aged
Step 1: Conduct reproduction costs analysis on all
asset and whether assets with similar engineering
assets
design are still available in the market.
Step 2: Adjust the book values to reproduction costs
● Size of the assets - This is important for fixed assets
values (similar as replacement value)
particularly real property where assets of the similar
size will be compared. Some analysts find that the Step 3: Apply the replacement value formula using the
assets can produce the same volume for the assets of figures calculated in the preceding step
the same size.
Liquidation Value Method
● Competitive advantage of the asset - Assets which
have distinct characteristics are hard to replace. -The Liquidation Value Method provides the most
However, the characteristics and capabilities of the conservative value. However, the limitation of this
distinct asset might be found in similar, separate approach is that the future value is not fully
assets. Some valuators combine the value of the incorporated in the calculated equity value.
similar, separate assets that can perform the function
of the distinct asset being valued.
As an example o Example: AOL merging with Time
Warner.
assume liabilities for company A are ₱550,000.
3. Market-Extension Merger: Merging
Also, assume the book value of assets found on the
companies that sell the same products but in
balance sheet is ₱1 million,
different markets, thus expanding their
the salvage value is ₱50,000, and the estimated value customer base.
of selling all assets at auction is ₱750,000.
o Example: RBC Centura merging with
The liquidation value is calculated by subtracting the Eagle Bancshares.
liabilities from the auction value,
4. Product-Extension Merger: Involves
which is ₱750,000 minus ₱550,000, or ₱200,000. companies selling related products, enabling
the merged entity to offer complementary
Liabilities: ₱550K goods.
Auction Value: ₱750k o Example: Mobilink Telecom merging
Solution: ₱750k - ₱550k = ₱200K with Broadcom.

4 Asset-based valuation 5. Conglomerate Merger: A merger between

companies that operate in different industries.
1. Book Value Method It can be either "pure" (completely unrelated)
2. Reproduction Value Method or "mixed" (expanding into new markets or
products).
3. Replacement Value Method
o Example: Walt Disney merging with
4. Liquidation Value Method ABC.

Advantages of Mergers
G4 1. Increased Market Share: Mergers help
Merger vs. Acquisition companies gain a larger market presence.

Mergers and acquisitions (M&A) are strategies used 2. Cost Reduction: Economies of scale can be
by companies to combine or purchase other achieved, reducing operational costs.
companies for various reasons like growth, market 3. Avoidance of Duplication: Mergers eliminate
expansion, and improved efficiency. Both terms are overlap in operations, reducing competition.
related but have key differences.
4. Geographic Expansion: Mergers can help a
Merger company expand into new regions.
A merger occurs when two companies combine to
form a new entity. Typically, the merging companies 5. Preventing Closure: Mergers can save
are of similar size and financial strength. The goal is struggling businesses from bankruptcy.
often to create a stronger, more competitive company. Disadvantages of Mergers
Types of Mergers 1. Higher Prices: A merger may lead to
1. Horizontal Merger: Occurs when two monopoly power, enabling the company to
competing companies in the same market raise prices.
merge. The aim is often to increase market 2. Communication Issues: Different company
share and reduce competition. cultures can result in ineffective
o Example: HP merging with Compaq in communication.
2011. 3. Job Losses: Mergers often lead to
2. Vertical Merger: Happens between companies redundancies, resulting in job cuts.
in the same supply chain, from production to
distribution, to control more of the process
and increase efficiency.
 4. Limited Economies of Scale: If the companies 2. Duplication of Roles: Redundancies in roles or
are too different, it may be difficult to achieve departments can result in job cuts.
synergies.
3. Conflicting Objectives: The acquired and
Acquisition acquiring companies may have different goals.
An acquisition is when one company takes over
4. Poor Match: Acquiring a company that
another, absorbing its operations, assets, and
doesn’t align well with your business can
management. Unlike mergers, acquisitions do not
create more challenges than benefits.
form a new entity; the acquired company ceases to
exist under its own name. 5. Supplier Pressure: Suppliers may struggle to
meet increased demand post-acquisition.
Types of Acquisitions
6. Brand Damage: Merging two brands or
1. Friendly Acquisition: The acquired company
retaining an old one may damage the
agrees to the takeover.
reputation of the business.
o Example: Facebook acquiring
M&A Process
WhatsApp in 2014.
1. Preliminary Assessment/Valuation: The
2. Reverse Acquisition: A private company
companies assess their financial performance
acquires a public company and absorbs its
and market value.
operations.
2. Proposal Phase: A merger or acquisition
o Example: Warren Buffett’s Berkshire
proposal is made to potential targets.
Hathaway.
3. Exit Plan: The owners of the target firm
3. Backflip Acquisition: A rare scenario where
decide on an exit strategy.
the acquiring company becomes a subsidiary
of the company it purchased. 4. Structured Marketing: The target firm
markets its value to achieve the highest
4. Hostile Acquisition: The acquirer bypasses
possible selling price.
management and directly seeks approval from
shareholders. Conclusion
Both mergers and acquisitions offer significant growth
o Example: Sanofi-Aventis acquiring
potential, but they come with their own challenges.
Genzyme.
Proper planning, a clear strategy, and alignment of
Benefits of Acquisitions goals are essential for ensuring success in M&A
transactions. Despite the challenges, M&As can
1. Reduced Entry Barriers: Acquiring an
enhance market power, improve resources, and help
established company helps enter new markets
companies achieve growth and competitiveness.
more easily.

2. Increased Market Power: Acquisitions can

quickly boost market share. G5

3. Access to New Competencies: Acquiring This document provides an extensive overview of

companies can provide new resources and leveraged buyouts (LBOs), breaking down the process,
expertise. the parties involved, key characteristics of good LBO
candidates, and the role of valuation in these
4. Expert Access: Smaller companies gain access
transactions. Here's a brief summary of each section:
to specialists in various fields.
1. Introduction to LBOs
5. Access to Capital: Larger companies typically
have better access to financing options. Leveraged buyouts are a financial strategy where a
company acquires another using a substantial amount
Challenges with Acquisitions
of borrowed money, which is typically secured by the
1. Cultural Clashes: Different company cultures assets of the acquired company. LBOs are attractive
can lead to integration issues. due to their potential for high returns, but they
require careful management of debt and cash flows.  Negotiation and Offer: Agreeing on the target
Divestitures play a crucial role in the LBO lifecycle, company’s valuation and terms.
offering private equity firms an exit strategy to realize
 Execution: Finalizing financing and closing the
returns.
deal.
2. What is a Leveraged Buyout?
 Post-Acquisition Management: Integrating
An LBO is a financial transaction where the buyer uses the company and managing debt.
borrowed funds (debt) to purchase a company, often
 Exit Strategy: The final step, where private
using the target company's assets as collateral. This
equity firms look to realize their investment
allows the buyer to control a larger asset with less
through an IPO, trade sale, or secondary
equity, aiming for substantial returns.
buyout.
3. Key Parties Involved in an LBO
6. Exit Strategies for LBOs
 Buyers: Typically private equity firms or the
 Initial Public Offering (IPO): Taking the
target company's management.
acquired company public.
 Target Company: The company being
 Trade Sale: Selling the company to a strategic
acquired.
buyer.
 Management Team: Plays a significant role in
 Secondary Buyout: Selling to another private
the post-acquisition phase.
equity firm.
 Lenders: Provide the debt financing for the
7. Advantages of LBOs
acquisition.
 Larger Acquisitions: Leverage allows for the
4. What Makes a Good LBO Candidate?
purchase of larger companies.
A good LBO candidate has:
 Higher Returns: Leverage amplifies the
 Strong and Predictable Cash Flow: Ensures potential rate of return.
debt obligations can be met while allowing
 Minimal Equity Contribution: Allows buyers
reinvestment.
to minimize their upfront investment.
 Stable Customer Base: Predictable revenue
 Can be nanced using SBA-backed loans -
streams and a loyal customer base.
Many small business leveraged buyouts can
 Experienced Management: Skilled leadership be nanced using an SBA-backed loan. This is
is essential for smooth transition and value because SBA loans allow individuals to buy a
creation. company with only a 10% equity injection.

 Margin Improvement Potential: 8. Disadvantages of LBOs

Opportunities to streamline operations and
 Minimal Financial Cushion: High debt levels
increase efficiency.
leave little room for error.
5. How an LBO Works
 Risk of Equity Loss: If the deal doesn't work
The LBO process includes: out, investors may lose their entire equity.

 Preparation: Identifying potential targets with  Difficulty in Securing Additional Financing:

strong cash flows and operational Post-acquisition, companies may struggle to
improvement potential. secure further financing.

 Due Diligence: Thoroughly examining the 9. Leveraged Buyout Scenarios

financial, operational, and legal aspects of the
 Management Buyout (MBO): Existing
target.
management acquires the company with
 Financing Structure: Securing the necessary external financing
debt and equity financing.
 o Key Features: Management  Formula: Estimated Value of the Target
Participation, Alignment of Interests, Company = EBITDA of the Target Company x
Operational Improvements P/E Ratio of Comparable Companies

 Management Buy-In (MBI): An external

management team acquires the company
2. Discounted Cash Flow (DCF)
o Key Features: External Team, Strategic
 The discounted cash flow method estimates
Overhaul, Targeting Underperforming
a company’s worth by projecting its future
Companies
cash flows and discounting them back to
 Public-to-Private Buyout: A publicly traded their present value. This method considers
company is taken private the time value of money, as future cash flows
are worth less than immediate cash flows.
o Key Features: Premium Acquisition
Price, Reduced Regulatory Scrutiny,
Focus on Long-Term Value Creation:

 Strategic Buyout: A company is acquired by a

strategic buyer aiming for synergies

o Key Features: Synergies, Market 3. Comparable Company Analysis

Expansion, Larger Scale
 Comparable company analysis involves
10. Importance of Valuation benchmarking the target company against
similar publicly traded companies. Key
Valuation is critical in LBOs to determine a fair
nancial ratios like price-to-earnings (P/E),
purchase price and ensure that the company can
price-to-sales (P/S), or enterprise value-to-
manage debt effectively post-acquisition. It also helps
EBITDA (EV/EBITDA) are used to determine
in price negotiations and guides the post-acquisition
the target company’s valuation multiples.
strategy.
 Formula: Estimated Value of the Target
This summary provides a structured understanding of Company = EBITDA × EV/EBITDA Ratio
LBOs, their risks, advantages, and the importance of
strategic management in making these acquisitions
4. Asset-Based Valuation
successful
 calculates the value of a company based on
its net assets. This method considers the
METHODS AND APPROACHES target company’s tangible assets (e.g.,
property, plant, and equipment) and
Valuing a company accurately is crucial in LBOs to intangible assets (e.g., patents, trademarks)
ensure the acquisition price is reasonable and aligns minus its liabilities.
with the target company’s nancial performance and  Asset-based valuation is commonly used
potential. Several valuation methods are commonly when a company’s liquidation value exceeds
used in LBOs. its intrinsic or going-concern value.
1. Earnings Multiple  Formula: Estimated Value of the Target
Company = Total Assets- Total Liabilities
 The earnings multiple is a method that
calculates the networth of a company based a
multiple of its earnings. This multiple is 5. Leveraged Buyout (LBO) Model
typically derived from comparable companies
or transactions in the same industry. The  A financial tool typically built in Excel to
target company’s earnings, such as EBITDA evaluate a LBO transaction. The LBO model is
(Earnings Before Interest, Taxes, Depreciation, a comprehensive nancial model designed to
and Amortisation), are multiplied by the analyze and value leveraged buyouts
earnings multiple to know the estimated
value.
DIVESTITURE Sell off segments that are non-core to
focus on more profitable areas.
 Definition: The disposal of assets or  Generate Additional Funds:
business segments, often via sale to third Proceeds from the sale can be used for
parties. It involves selling part of a debt reduction or other investments.
company (unit, subsidiary, or product line)  Take Advantage of Resale Value:
to improve financial performance, focus Divesting underperforming segments to
on core operations, raise capital, or boost cut losses and reinvest.
shareholder value.  Ensure Business Stability or Survival:
 Types of Divestitures: Asset sales, spin- In financial distress, divestment may be
offs, equity carve-outs, and management preferred over bankruptcy.
buyouts.  Adapt to Regulatory Environments:
 Challenges: Accurate valuation, regulatory Regulatory changes or antitrust issues
approvals, stakeholder impact, may require divesting assets.
operational integration.  Lack of Internal Talent:
 Benefits: Divestitures help companies Lack of expertise to manage a segment
concentrate on core operations, improve may lead to divestment.
financial health, generate cash flow,  Opportunistic Offers from Third Parties:
reduce debt, and increase shareholder Unsolicited offers might present an
value. opportunity to sell at a premium price.

DIVESTITURE PROCESS WHAT HAPPENS TO EMPLOYEES DURING A

DIVESTITURE?
1. Creation of Separate Financials:
o Separate financial statements for  Employee Transition:
the division or asset being sold, Deciding which employees stay with the
offering a clear financial picture. parent company or move to the new
2. Financial Modeling: entity.
o Use separated financial data to  Retention Offers:
project future performance, The new entity may offer retention
including cash flows and profits. bonuses or incentives to key employees.
3. Valuation:  Layoffs:
o Use methods like the "Sum of the The acquiring company may lay off
Parts" model to estimate the value employees due to redundancy or changes
of the division and its components. in business strategy.
4. Deal Value Analysis:  Severance Packages:
o Analyze the potential deal’s value, Laid-off employees may receive financial
including strategic fit, synergies, compensation and career support.
and market conditions.  Employee Morale and Culture:
5. Marketing and Negotiation: Divestiture may lead to uncertainty and
o Identify potential buyers, affect morale, requiring transparent
showcase the division, negotiate communication.
terms, and finalize the sale.  Legal and Regulatory Considerations:
Compliance with local labor laws
regarding layoffs and employee
transitions.
RATIONALE BEHIND A DIVESTITURE

 Non-core or Redundant Business

Segments: EXAMPLE SITUATION OF DIVESTITURE
  Meta-Giphy Sale: ADVANTAGES OF DIVESTITURE
Meta sold Giphy to Shutterstock for $53
million, marking an 83% loss on its 1. Strategic Focus:
previous investment. Allows the company to concentrate on its
 IBM and Lenovo Deal: main business areas, improving efficiency.
IBM sold its personal computing division 2. Cash Generation:
to Lenovo in 2005 to focus on core Provides cash for debt reduction,
services and software. reinvestment, or funding new growth
opportunities.
3. Enhanced Shareholder Value:
Increases market value and shareholder
TYPES OF DIVESTITURE returns by focusing on profitable areas.
4. Improved Transparency:
1. Sell-offs/Liquidation: Makes the company’s financial statements
Basic divestment where assets are sold for clearer, attracting investors.
cash.
2. Carve-outs:
An IPO of a business unit, establishing a
new shareholder base, with the parent DISADVANTAGES OF DIVESTITURE
retaining equity.
3. Spin-offs: 1. Loss of Shared Costs:
A business unit becomes a new entity with The remaining company may lose shared
existing shareholders receiving shares in costs, potentially increasing overall
the new company. expenses.
4. Split-ups: 2. Contractual Obligations:
Shareholders decide whether to keep Divesting may involve complex
shares in the parent or the new entity. contractual issues, including renegotiating
contracts and managing employee
transitions.
3. Potential Loss of Revenue:
WHEN SHOULD A COMPANY CONSIDER Selling a profitable division could result in
DIVESTING? a loss of revenue and market presence.

 Non-Core Assets:
When a business unit no longer aligns
with the company’s strategic goals. THE IMPORTANCE OF VALUATION IN
 Underperformance: DIVESTITURE
When a segment consistently
underperforms, divesting can free up  Fair Market Value:
resources. Ensures a fair price for the business unit
 Need for Cash: to avoid underselling or overpricing.
Divestitures can provide immediate funds  Financial Health Assessment:
for debt reduction or reinvestment. Helps assess the unit's financial strength,
 Regulatory Requirements: offering valuable insights to buyers and
Divestment may be required by regulatory sellers.
bodies to prevent monopolistic practices.  Investment Decision Support:
 Strategic Changes: Supports strategic planning by aligning the
Changes in market dynamics or corporate divestiture with financial goals.
strategy might require divesting certain  Price Negotiation:
assets. Provides data for solid price negotiations
between buyers and sellers.
 Strategic Alignment:
Helps identify underperforming or non-
 core assets that should be divested for  Market volatility: Fluctuations in market
strategic goals. conditions can significantly impact the
realized value of an asset.
 Industry-specific predictability: Some
industries are more susceptible to
PRICING CONSIDERATIONS IN DIVESTITURES macroeconomic shifts. Stable sectors like
food and pharmaceuticals are less
 Market Conditions: impacted than industries like luxury
The economic and industry conditions goods.
affect valuation, with strong markets  Disruptive innovation: Emerging
leading to higher prices. companies and technologies can disrupt
 Comparable Transactions: established businesses, making long-term
Analyzing recent sales of similar value prediction difficult.
businesses to establish benchmarks.
 Future Prospects: RISK FACTORS IN BUSINESS VALUATION
Growth potential and stable cash flows
impact the value of the unit.  Risk and uncertainty are integral to the
 Asset-Based Valuation: property valuation process.
Evaluating both tangible and intangible  Uncertainty arises from various
assets to determine the overall worth. characteristics inherent in the property
 Risk Factors: itself.
Market volatility, regulatory changes, and
operational risks influence pricing Systematic Risk (External Factors)
decisions.
 These include macroeconomic and
microeconomic factors, legal and
regulatory changes, market conditions,
G6 interest rates, and disruptive innovations.
 Examples: Changes in government
Valuation Uncertainty policies, tax rates, and major global
events.
 Valuation is inherently uncertain, meaning
the true value of a firm lies within a range Unsystematic Risk (Internal Factors)
of possible values.
 Analysts can only partially confirm that all  These are specific to the business being
potential risks have been factored in. valued, such as its management quality,
 Identifying and managing risk is essential financial performance, operational
for accurate and reliable business efficiency, and competitive position.
valuations.  Examples: Poor management decisions,
labor strikes, and the emergence of new
Factors Contributing to Uncertainty (from competitors
"Valuation Concepts and Methods" by Lascano,
Baron, and Cachero, 2021):

 Future estimates: Valuation relies on

predicting future performance, which is
inherently unpredictable.
 Analyst judgment and assumptions:
Analysts must make judgments and
assumptions based on available
information, introducing subjectivity. IMPACT OF RISK ON VALUATION APPROACHES
There are three common approaches to valuing a
business and this part explains how these risk communication, enhancing
approaches are affected by risk. valuation accuracy.
 COVID-19 impact on hospitality industry:
The pandemic caused volatility,
complicating revenue projections and
asset valuations.
o Valuers adapted with enhanced
due diligence, scenario planning,
sensitivity analysis, and focus on
qualitative factors like adaptability
and customer loyalty.
o Clear communication of risks
allowed stakeholders to make
1.4. MITIGATING RISK AND ENSURING informed decisions during the
ACCURACY uncertainty.

 Ali et al. (2022) emphasize mitigating risk 2.1. DEFINITION OF DUE DILIGENCE & R.A. 8799
to ensure accurate business valuations.
 Due diligence: The process of verifying
 Valuers have a duty of care to minimize
facts about a person, company, or deal
uncertainty and adhere to professional
before making important decisions.
standards.
 R.A. 8799 (Securities Regulation Code of
 Key steps for mitigating risk:
the Philippines): Provides rules for trading
o Thorough due diligence: Involves
stocks and securities to protect investors
examining financial records,
and ensure market fairness.
operations, management team,
and industry dynamics.
2.2. TYPES OF DUE DILIGENCE: ACCORDING TO
o Explicit risk communication:
THE EXECUTOR OR WHO DOES IT
Communicate identified risks and
uncertainties to clients, ideally
 Corporate Due Diligence: Done by a
with a quantifiable risk score.
company evaluating another business for
o Appropriate valuation techniques:
mergers, partnerships, or investments.
Choose valuation methods that
 Private Due Diligence: Performed by
suit the business and industry,
individuals or small groups, such as when
accounting for risks and
buying a small business.
uncertainties.
 Government Due Diligence: Conducted by
o Sensitivity analysis and scenario
the government to ensure businesses
planning: Explore multiple
follow rules and avoid harming people or
scenarios and assess how key
the environment.
assumptions impact the valuation
 Summary: All types of due diligence are
to understand the range of values.
like background checks to avoid risks and
make informed decisions.
1.5. EXAMPLE OF UNCERTAINTY IN BUSINESS
VALUATION
2.3. TYPES OF DUE DILIGENCE: ACCORDING TO
SUBJECT OR WHAT IS BEING CHECKED
 Technology startup: A startup with an
innovative mobile app faces risks like
 Hard Due Diligence: Focuses on data and
limited financial history, market volatility,
hard evidence, such as financial
and reliance on intangible assets.
statements or validating expected
o Valuers mitigate these risks
performance.
through due diligence, scenario
planning, market comparisons, and
  Soft Due Diligence: Focuses on internal  M&As allow corporations to raise
factors like employees, systems, and revenue, expand their asset base, acquire
customer service. market share, or manage supply chains.
 Combined Due Diligence: A  Main reasons for M&As:
comprehensive approach that examines o Manage the cost of capital.
both hard and soft factors. o Expansion and growth.
o Economies of scale.
2.4. FACTORS TO BE CONSIDERED IN THE DUE o Diversify for market coverage.
DILIGENCE PROCESS o Access to new industries.
o Technological advancements.
 Market Capitalization: Reflects the o Tax management.
company's value volatility and helps in o Legal strategies.
sustainability assessments. o Control over the supply chain.
 External Environment Analysis: Evaluates
the company's position in its industry. 3.3. THREE REQUIREMENTS FOR SUCCESSFUL
 Management and Share Ownership: M&As
Reviews company leadership and
ownership policies. 1. Companies must be willing to take risks
 Financial Statements: Provides evidence and make careful investments.
of the company's financial health. 2. Multiple bets must be made to optimize
 Stock Price History: Helps assess stock opportunities.
stability or volatility. 3. The acquiring firm must be patient in
 Stock Dilution Possibilities: Occurs when realizing the investment.
a company issues more shares, reducing
the ownership percentage of existing 3.4. M&A ACCORDING TO FORM
shareholders.
 Market Expectations: The impact of  Absorption: One firm absorbs another,
meeting or missing market performance with the acquiring company taking over its
expectations on stock price. assets, liabilities, and shares.
 Long and Short-Term Risks:  Consolidation: Two companies combine
o Short-Term Risks: Immediate risks assets or restructure debt, often handled
like a drop in stock price. by banks (e.g., Facebook acquiring social
o Long-Term Risks: Risks related to media companies).
future economic or industry
changes. 3.5. M&A ACCORDING TO ECONOMIC
PERSPECTIVES
3.1. DEFINITION
1. Horizontal M&As: Two companies in the
 Mergers and Acquisitions (M&As): A same industry merge.
corporate strategy involving the o Example: Disney and 21st Century
combination of two or more companies to Fox.
determine asset prices. 2. Vertical M&As: Companies from different
 Mergers: Two firms combine, often stages of the value chain merge (e.g.,
equally, with shareholders exchanging supplier acquiring customer).
shares for new company securities. o Example: Microsoft's acquisition of
 Acquisitions: One firm takes over another, Activision Blizzard.
either voluntarily or through hostile 3. Conglomerate M&As: Companies from
takeover. unrelated industries merge.
o Example: Berkshire Hathaway’s
3.2. REASONS WHY COMPANIES ENTER INTO diverse acquisitions.
M&As
3.6. M&A ACCORDING TO LEGAL PERSPECTIVES
 1. Short-Form M&As: A parent company  Poorly executed integration: Issues
acquires more shares of its subsidiary to during integration disrupt operations and
increase ownership. cultures.
o Example: Meta repurchasing  Inadequate Due Diligence: Failing to
shares to influence stock price. verify assumptions and information can
2. Statutory M&As: Two companies merge lead to unforeseen problems.
with one surviving.  Aggressive Projections and Estimates:
o Example: T-Mobile US and Sprint Overestimating sustainability and growth
merger in 2020. potential leads to financial difficulties.
3. Subsidiary M&As: A parent company
acquires a startup, making it a subsidiary. 3.10. MAJOR VALUATION METHODS USED IN
o Example: Alphabet acquiring M&A
smaller startups.
 Discounted Cash Flow (DCF): Estimates
3.7. THE FIVE STAGES OF M&A the target’s value by discounting future
cash flows to present value.
1. Pre-acquisition Review: Assessing the  Comparable Company Analysis: Valuates
feasibility of an M&A strategy. the target based on similar publicly traded
2. Investment Opportunity Scanning: companies in the same industry.
Identifying potential target companies.  Comparable Transaction Analysis: Derives
3. Valuation of Target Investment: value from past transactions of similar
Conducting due diligence to assess companies
financial performance.
4. Negotiation: Negotiating deal terms like  4.1. DEFINITION OF DIVESTITURE
price and structure.
5. Integration: Merging operations, finances,  Divestiture or Divestment refers to the
and cultures. disposal of assets of an entity or business
segment via sale, exchange, closure, or
3.8. KEY CONSIDERATIONS FOR SUCCESSFUL bankruptcy.
M&As  It is a partial or full disposal of a business
unit, often due to a management decision
 Clear Objectives: Defining goals and to cease operations in a non-core area.
expected outcomes.  Allows companies to focus on core
 Industry Analysis: Understanding the competencies, cut costs, repay debts, and
competitive landscape. enhance shareholder value.
 Operational Synergies: Identifying how  Example: An automobile manufacturer
companies can complement each other. selling its financing division to fund the
 Friendly or Hostile Takeover: Assessing development of new vehicles.
the level of cooperation from the target
company.  4.2. RATIONALES BEHIND DIVESTITURE
 Financial Performance: Evaluating the
financial health of both companies.  Sell non-core or redundant business
 Tax Implications: Considering tax segments: To streamline operations and
consequences of the transaction. focus on core competencies.
 Generate additional funds: Provides
3.9. REASONS FOR FAILURE OF M&A immediate cash flow for acquisitions, debt
reduction, or investments without
 Poor Strategic Fit: Mismatched missions incurring debt or diluting equity.
and goals lead to inefficiencies and higher  Take advantage of resale value of non-
costs. performing segments: Selling
underperforming segments to unlock their
residual value rather than incurring losses.
  Ensure business stability or survival: In o 4. Does it make me want to invest
times of financial distress, selling non- in this company?
essential assets can provide capital for o All these questions will inform an
restructuring and avoiding bankruptcy. ROI-based business valuation.
 Adapt to regulatory environment:
Regulatory changes or tax policies may 5.2. DIVIDEND PAYING CAPACITY METHOD
require asset sales to promote
competition or make certain business -The dividend-paying capacity method,
units unprofitable. sometimes referred to as the dividend payout
 Lack of internal talent: A lack of qualified method, is an income-oriented method but is
management for a specific business considered a market approach as it is based on 15
segment can lead to underperformance, market data.
making divestiture a better option.
 Take advantage of opportunistic offers: This method expresses a relationship between
Unsolicited third-party offers can provide the following:
a chance for a higher sale price.
o Estimated future number of
 4.3. TYPES OF DIVESTITURES dividends to be paid out or
capacity to pay out
 Partial sell-offs: Selling a subsidiary to o Weighted average "comparable"
raise capital for more productive core company dividend yields of
units. comparable companies, further
 Spin-off demerger: Separating a division weighted by degree of
or unit to form an independent company. comparability each year using
 Split-up demerger: The company splits enough comparable companies,
into independent companies, and the generally more than three.
parent company ceases to exist. o Estimated value of the business
 Equity carve-out: Selling a portion of a
wholly-owned subsidiary through IPOs Illustration.
while retaining control.
The company has a five-year history of weighted
 5.1. ROI-BASED VALUATION METHOD average profits of Php 250,000. Its weighted
average dividend payout percentage over the last
 Evaluates a company based on its profit five years has been 30 percent and the dividend
and the potential return on investment yield rate is 7.5%
(ROI) for an investor.
 The ROI method is useful for investors to 1. To compute the capacity to pay out, simply
determine potential returns but is multiply the average profits by the dividend
subjective and may favor the seller based payout ratio. Computed as Php 250,000 x 30% =
on market conditions. Php 75,000
 more information to convince an investor
or buyer of the result. An investor or 2. To compute the value of the business simply
buyer will want to know: divide the capacity to pay out by a dividend yield
o 1. How long will it take to recover rate of 7.5%
the original investment?
o 2. After that, when I look at my Computed as Php 75.000/7.5% = Php 1,000,000
share of the expected net income,
compared with my investment, This method is particularly useful for estimating
what does my return look like? the value of relatively large businesses and
o 3. Is the expected share of net businesses that have had a history of paying
income realistic, ambitious, or dividends to shareholders. It is highly regarded
conservative? because it utilizes market comparisons.