Equity Valuation

Brainteaser

• There are 30 hyenas and 1 pig, and all animals are logical

• If a hyena eats a pig, a hyena will become a pig

• A pig can only eaten by 1 hyena• Hyena preference: die < eat grass < eat

pig• Will the pig get eaten?

• What if there are 31 hyenas?

Quality of business

• Economic Moats• Pricing power

Cost structure

• High fixed cost?• Brand value– What is the difference between LV’s brand

and Lego’s brand? If you can own 1 of them, which do you own?

Competitive Landscape

• Is the business as efficient as it can be?

• Does the business need to be efficient in the first place?

Before you start doing valuation• Getting to the right numbers• Proforma adjustments to get normalized

numbers– 1-time costs / gains

• Litigation• Selling a business / buying one• Gain from the financial markets (commodity hedge)

Valuation Multiples

• EBITDA– 6x

• EBIT– 8x

• Cash Earnings– 10x

When do you use what?

How much would you pay?

• To buy my gumball machine– Selling 100 gumballs in a restaurant everyday

for $1.20 per gumball– Cost you $0.20 per gumball

• What if the restaurant gives you an exclusive agreement for your machine?

• What if instead of gumballs I am selling Harry Potter figurines in a mall? (same amount of sales and cost per toy as a gumball)

How much would you pay?

• To buy my local newspaper business– 1,000 families in the area, most of them are in

the auto manufacture business and live within 3 miles from each other

– I sell 500 copies of physical newspapers every morning for $1 profit

How much would you pay?

• I now run a motel around a mining town that mines coal

• I run at full occupancy, all my 100 rooms are used by miners every day and their firm pays for it.

• The mines in the area are mostly under construction at this point, experts expect the mines to operate for at least 50 years

Other valuation methods

• Asset build-up / Liquidation– The sum of all assets on the balance sheet

today– The firm should be worth at least the value of

all assets, if not more

• Run-off value– Some assets generate value based on contracts

(e.g. a patent license agreement)– A firm should be worth at least the sum of that

run-off value