The question: what should we do about income from associates in comparative valuation work?
This question was received on one of our financial modelling courses.
In comparative valuation work we calculate an earnings stream for our target (e.g. EBITDA) and multiply that up, based on the valuation:EBITDA multiple other similar comparable companies are trading at.
For example:
[10m EBITDA earnings for target] x
[average EBITDA multiple of 6 for comparables] =
60m target company valuation.
The question is, how should we treat income the target company receives from associates?
Step 1: exclude associate income for our valuation target
Associates are businesses where the owner (the target company we are trying to value) holds a small shareholding. They can be businesses that are not core to normal operations, so the temptation is to exclude associate income when calculating underlying EBITDA earnings for our valuation target.
Step 2: exclude associate income, and the value of associates, for our comparable companies
To be consistent, we will need to exclude associate income from EBITDA in comparable companies, and also remove the value of the associates from valuation, to derive an underlying valuation multiple for the core business.
Step 3: add the value of the associates to the valuation for our target company
When valuing the target business using an EBITDA multiple derived from other comparable businesses, then we will need to value the associates separately and add those to our valuation for our target.
So our target's valuation =
[EBITDA less associate income] x
[EBITDA multiple for comparable companies*] +
[Value of associates]
*where EBITDA multiple for comparable companies =
[Valuation of comparable companies, excluding value of associates] divided by
[EBITDA, less associate income, for comparable companies]
About Financial Training Associates Ltd: the company
Financial Training Associates is a provider of finance-related courses to banking, law, accounting and other professionals. Course subjects encompass Excel financial modelling course training, project and corporate finance, company valuation and other related finance courses.
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2 comments:
How do we value an associate?same as a business valuation?
Short answer = yes. Long answer = you have two options. Option (i) you can include associate income in EBITDA and so value associates as part of the income stream for the rest of the company. Option (ii) you can exclude associate income from core income and value them separately e.g. on a multiple of EBITDA that's appropriate for the associate business. Many people would use option (ii) - that's what the article above is saying.
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