Part 1. Calculating capitalization rates
In this part, you calculate capitalization rates (“cap” rates) and value multipliers used to calculate horizon value, or to estimate current value of a company.
Select a non-financial company for which financial information is available for at least the three most recent years. Obtain financial statements the three most recent years. Use the company’s financial statements, together with other information described, to calculate the values indicated in questions 1-4.
Growing perpetuity based valuation multiplier and cap rate
1a. Estimate a growth rate for the company. Use average growth in any appropriate variable, such as sales (or total revenue), net income, operating income, dividends, etc. Specify how you determine the growth rate.
b. Estimate the required return for the company using the capital asset pricing model if beta is available for the company (assume the risk free rate is 1.75% and the expected market return, 12.25%). If beta is not available, use the company’s average annual stock return for the last three years as the required return.
c. Use the answers to parts a and b to calculate the company’s cash flow multiplier based on the growing perpetuity valuation method
d. Convert the value in 1c to a cap rate.
Valuation multipliers and cap rates based on an operating variable
2a. Select an operating variable for the company (total sales, EBIT, operating cash flow, net income, etc.) from which to calculate a value multiplier
b. Calculate the value multiplier using the company’s current market capitalization and the most recent year’s value for that operating variable. [E.g., if you select net income as the operating variable, calculate the price to net income ratio, PE ratio. Be sure that the units for the company’s market capitalization and the selected operating variable are the same. If the income statement entries are in thousands, the market cap must also be in thousands.)
c. Convert the value in b to a cap rate.
Valuation multipliers and cap rates based on value of an asset
3a. Select an appropriate non-operating, financial variable (total assets, total stockholders equity, net fixed assets, etc.) for the company from which to calculate a value multiplier.
b. Calculate the value multiplier using the company’s current market capitalization and the most recent year’s value for that non-operating variable. [E.g., if you select total assets as the non-operating, financial variable, calculate the price to total asset ratio. (Be sure that the units for the company’s market capitalization and the non-operating variable are the same. If the balance sheet entries are in thousands, the market cap must also be in thousands.)
c. Convert the value in b to a “cap rate”.
Valuation multipliers and cap rates based on a non-financial asset
4a. Find the number of employees for the company for the most recent fiscal year.
b. Calculate the value multiplier using the company’s current market capitalization and the number of employees in part a. (Be sure that the units for the company’s market capitalization and the number of employees are the same. If the market capitalization is in millions, the number of employees must also be in millions.)
c. Convert the value in b to a capitalization rate.
Part 2. Using industry multipliers or cap rates to estimate the market value of a privately held company.
In this part, you use value multipliers and/or cap rates to estimate the current
market value of a privately held company (the current value is the horizon value as of time 0).
Data for the private company is attached below.
5a. Use the multiplier from question 1 as a proxy for the industry multiplier to estimate the market value of the private company.
b. Use the cap rate from question 2 as a proxy for the industry cap rate to estimate the market value of the private company.
c. Use the multiplier or cap rate from question 3 as a proxy for the industry multiplier or cap rate to estimate the market value of the private company.
d. Use the multiplier or cap rate from question 4 as a proxy for the industry multiplier or cap rate to estimate the market value of the private company.
6. Briefly discuss the differences in values obtained in question 5 using the different methods, and based on the characteristics of the company you selected for part 1, indicate which value(s) are likely to be most accurate for a private company in the same industry.
Part 3. Horizon value
7. For one of the multipliers or cap rates from questions 1-4, explain how that multiplier or cap rate can be used to estimate the value of the private company as of 5 years from now.