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Study cards target valuation

Q: What are the advantages and disadvantages of Replacement Cost?

Advantages: More realistic than book value; provides a ceiling — don't pay more than cost to replicate; useful when acquiring physical capacity. Disadvantages: Difficult to value intangibles; ignores synergies and going-concern value; time-consuming specialist assessment required.

Q: How many years of cash flows are forecast in DCF?

5 to maximum 10 years — it is impossible to discount infinite cash flows. A Terminal Value (TV) is added at the end to capture all cash flows beyond the forecast horizon.

Q: Why is Terminal Value important and risky in DCF?

TV often represents 60–80% of total DCF value. It capitalises the long-term growth prospects. The slides warn: 'Be extra careful when estimating g — small changes in g can affect TV significantly.' This sensitivity is the biggest DCF disadvantage.

Q: What are the additional disadvantages of DCF in cross-border deals?

Segmented markets — must use local cost of capital, not global WACC. 2. Different accounting standards make deriving foreign cash flows harder. 3. Political risk must be reflected — either reduce expected cash flows or increase the discount rate.

Q: What is Trading Multiples (CCA)?

Apply valuation multiples from the share prices of similar listed firms to the target's metrics. Most common multiple: EV/EBITDA (the 'cash flow multiple'). Also: EV/Revenue, P/E, P/B. Apply the median comparable multiple to the target's EBITDA to estimate enterprise value.

Q: Why is EV/EBITDA preferred over P/E for multiples?

EV/EBITDA is more robust — it excludes interest, taxes, depreciation and amortisation, which vary between firms due to capital structure and accounting choices. P/E is distorted by different depreciation policies and net debt levels between firms.

Q: When are Revenue multiples used instead of EV/EBITDA?

For fast-growing companies with no near-term profits, or when the acquirer will impose its own cost structure. P/E is meaningless when earnings are negative — revenue multiples are the only earnings-based option for pre-profit firms.

Q: What are the advantages of Trading Multiples (CCA)?

Simple and market-based — grounded in real investor prices. 2. Reflects current market conditions and sentiment. 3. Widely understood by non-specialists — easy to present to boards.

20 important questions on Study cards target valuation

What are the advantages and disadvantages of Liquidation Value?

Advantages: Sets an absolute floor; useful for distressed firms; relevant for bust-up acquisitions. Disadvantages: Usually smaller than book value; ignores intangibles and growth; requires specialist assessment for conversion rates.

What is Replacement Cost?

The cost to recreate the target's assets at current market prices. Related to Tobin's Q — if market value < replacement cost (Q < 1), it may be cheaper to acquire than to build from scratch.

What are the advantages and disadvantages of Replacement Cost?

Advantages: More realistic than book value; provides a ceiling — don't pay more than cost to replicate; useful when acquiring physical capacity. Disadvantages: Difficult to value intangibles; ignores synergies and going-concern value; time-consuming specialist assessment required.

How many years of cash flows are forecast in DCF?

5 to maximum 10 years — it is impossible to discount infinite cash flows. A Terminal Value (TV) is added at the end to capture all cash flows beyond the forecast horizon.

Why is Terminal Value important and risky in DCF?

TV often represents 60–80% of total DCF value. It capitalises the long-term growth prospects. The slides warn: "Be extra careful when estimating g — small changes in g can affect TV significantly." This sensitivity is the biggest DCF disadvantage.

What are the additional disadvantages of DCF in cross-border deals?

Segmented markets — must use local cost of capital, not global WACC. 2. Different accounting standards make deriving foreign cash flows harder. 3. Political risk must be reflected — either reduce expected cash flows or increase the discount rate.

What is Trading Multiples (CCA)?

Apply valuation multiples from the share prices of similar listed firms to the target's metrics. Most common multiple: EV/EBITDA (the "cash flow multiple"). Also: EV/Revenue, P/E, P/B. Apply the median comparable multiple to the target's EBITDA to estimate enterprise value.

Why is EV/EBITDA preferred over P/E for multiples?

EV/EBITDA is more robust — it excludes interest, taxes, depreciation and amortisation, which vary between firms due to capital structure and accounting choices. P/E is distorted by different depreciation policies and net debt levels between firms.

When are Revenue multiples used instead of EV/EBITDA?

For fast-growing companies with no near-term profits, or when the acquirer will impose its own cost structure. P/E is meaningless when earnings are negative — revenue multiples are the only earnings-based option for pre-profit firms.

What are the advantages of Trading Multiples (CCA)?

Simple and market-based — grounded in real investor prices. 2. Reflects current market conditions and sentiment. 3. Widely understood by non-specialists — easy to present to boards.

What are the disadvantages of Trading Multiples (CCA)?

True comparables are rare — must match industry, size, growth and risk. 2. Does NOT include a control premium — minority market prices undervalue what must actually be paid for control. 3. Market conditions can distort multiples (inflated market = inflated multiples). 4. Even more unreliable for foreign companies — different accounting standards.

What is Transaction Multiples (PTA)?

Multiples derived from actual completed M&A deal prices — not from current share prices. Because actual deal prices include a control premium, transaction multiples are consistently HIGHER than trading multiples. More realistic for M&A pricing.

What is the key distinction between Trading Multiples and Transaction Multiples?

Trading multiples = derived from current share prices of comparable listed firms = reflect MINORITY value = do NOT include control premium. Transaction multiples = derived from actual M&A deal prices = reflect CONTROL value = DO include control premium. Transaction multiples are higher. Use transaction multiples for a more realistic M&A bid anchor.

What are the advantages of Transaction Multiples (PTA)?

Based on actual prices paid — includes control premium, realistic for M&A. 2. Shows the range of premiums already being paid in the market. 3. Uses publicly available deal information.

What are the disadvantages of Transaction Multiples (PTA)?

No two deals are identical — comparison is imperfect. 2. Limited availability of truly comparable transactions. 3. Market conditions at the time of precedent deals may differ from today. 4. Different synergy benefits to different buyers — what Company A paid doesn't mean Company C should pay the same.

When is Book Value most vs least appropriate?

Most appropriate: manufacturing, utilities, asset-heavy firms with mainly tangible assets. Least appropriate: technology, pharma, any business where intangibles or growth potential dominate. The slides say it is "not appropriate for think-like-an-investor individuals" in growth contexts.

When is Liquidation Value most appropriate?

Distressed firms, firms in financial difficulty, or bust-up acquisitions where the plan is to break up the target and sell divisions separately. Never the primary method for ongoing profitable businesses.

What are the cross-unit links related to Unit 6?

Unit 6 → Unit 2 + Unit 10: Synergy overestimation is the direct link. Bidders systematically overestimate synergies (hubris — Roll 1986) → overpay → premium exceeds synergy gains → long-run negative BHAR (Moeller et al. 2005). Valuation failure is the mechanism behind bidder wealth destruction.

What are the cross-border complications in valuation?

Valuation is significantly harder in cross-border deals: currency fluctuations change the target's value; different accounting standards (IFRS vs GAAP) make cash flow derivation harder; segmented markets require local cost of capital; political risk requires discount rate adjustment; fewer comparable firms or transactions in foreign markets. Triangulation is even more important cross-border.

What does an A-grade answer look like for Unit 6?

List all 7 methods — breadth matters. 2. Go deepest on DCF (Gillian flagged it) and multiples. 3. For each method: name it, define it in one sentence, 2-3 advantages, 2-3 disadvantages, when it is most appropriate. 4. Conclude with the triangulation principle — no single method is reliable alone. 5. Add cross-border complications for extra depth. No calculations — narrative only.

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Study cards target valuation

20 important questions on Study cards target valuation

What are the advantages and disadvantages of Liquidation Value?

What is Replacement Cost?

What are the advantages and disadvantages of Replacement Cost?

How many years of cash flows are forecast in DCF?

Why is Terminal Value important and risky in DCF?

What are the additional disadvantages of DCF in cross-border deals?

What is Trading Multiples (CCA)?

Why is EV/EBITDA preferred over P/E for multiples?

When are Revenue multiples used instead of EV/EBITDA?

What are the advantages of Trading Multiples (CCA)?

What are the disadvantages of Trading Multiples (CCA)?

What is Transaction Multiples (PTA)?

What is the key distinction between Trading Multiples and Transaction Multiples?

What are the advantages of Transaction Multiples (PTA)?

What are the disadvantages of Transaction Multiples (PTA)?

When is Book Value most vs least appropriate?

When is Liquidation Value most appropriate?

What are the cross-unit links related to Unit 6?

What are the cross-border complications in valuation?

What does an A-grade answer look like for Unit 6?

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