Lezione 12
L’ORIGINE DEL VALORE
See T. Koller, M. Goedhart, D. Wessels, Valuation, 2010, Chapters 1, 2
L’origine del valore
• The guiding principle of value creation is that companies create value by investing capital they raise from investors to generate future cash flows at rates of return exceeding the cost of capital (the rate investor required to be paid for the use of their capital)
• The faster companies can increase their revenues and deploy more capital at attractive rates of return, the more value they create. The combination of growth and return on invested capital (ROIC) relative to its cost is what drives value
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Business Strategy e Valore
• Companies can sustain growth and high returns on capital only if they have a well-defined competitive advantage. This is how competitive advantage, the core concept of business strategy, links to the guiding principle of value creation.
• Anything that doesn’t increase cash flows doesn’t create value (conservation of value principle)
• Creating sustainable value is a long-term endeavor. Competition tends to erode competitive advantage and, with them, returns on invested capital.
Therefore, companies must seek and exploit new sources of competitive advantage if they are to create long term value (for shareholders but for the other stakeholders as well)
• To the end, managers must resist short-term pressure to take actions that create illusory value quickly at the expense of the real thing in long term
“FAFS” … in una pagina!
• This course is devoted to explain both the economics of value creation and the process of measuring and managing value
• This knowledge should help companies to make wiser strategic and operating decisions, such as what businesses to own and how to make trade-offs between growth and returns on invested capital
• Equally, this knowledge should enable investors to calculate the risks and returns of their investments with greater confidence
• In this sense, finance (the “science” and “art” about measuring and
managing value) is a “cross-discipline”, complementary to other fields of management and economics
• In general, a good management decision (for instance, an M&A project) is something that creates long term value whose foundations (rationales) are explained by operating variables (or levers) without any divergence between finance and other managerial disciplines
Fundamental Principles of Measuring and Managing Value
See T. Koller, M. Goedhart, D. Wessels, Valuation, 2010, Chapters 1, 2
I fondamentali della creazione del valore (economico) delle aziende
• We start our discussion by demonstrating why EBITDA and earnings per share (EPS) often fail to measure value.
• In the second part of our discussion, we demonstrate how the value of a company can be traced to four key value drivers: core operating
profit, return on capital, cost of capital, and organic revenue growth.
– Value creation and the practice of finance are about trade-offs. Although an action can lead to an improvement in one metric (such as worker productivity), it may have an adverse impact on other metrics, such as growth or capital required.
– Every business, product category, customer group, and channel must be thoroughly evaluated for the potential of growth and profitability.
Le fonti del valore economico Sempre, per tutte le aziende
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• Say a company’s cash flow was $100 last year and will be $105 next year. This doesn’t tell us much about its economic performance.
• But if we told you that the company was generating revenue growth of 7 percent per year and would earn a return on invested capital of 15 percent, then you would be able to evaluate its performance.
Profitti operativi e Free Cash Flow
• Company A earns $100 million a year in after-tax profit. Part of the profit will be reinvested in the business, the remainder distributed to investors.
EBIT(1 − T)
= $100
Reinvested in business
Returned to investors
$50
$50
Investment Rate (IR) = 50%
Payout Rate = 50%
Financial Terms
EBIT
= $180
$80 Paid in taxes
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• The company plans to reinvest $50 million at a 10 percent rate of return.
• This investment leads to an extra $5 million in profits.
• For simplicity, we assume all ratios, the investment rate, and so on never change.
Company A
Investment rate (IR) 50%
Return on new investment 10%
Growth in profits 5%
Year 1 Year 2 Year 3 After-tax operating profit 100.0 105.0 110.3 Net investment (50.0) (52.5) (55.1)
Free cash flow 50.0 52.5 55.1
Profitti operativi e Free Cash Flow (segue)
Quale azienda vale di più?
• Both Company A and Company B currently generate $100 million in profit and are expected to grow profits by 5 percent.
• Which one is worth more?
• If the popular view that value depends only on earnings were true, the two companies’ values also would be the same. But...
Company A: Volume Inc. Company B: Value Inc.
Investment rate (IR) 50% Investment rate (IR) 25%
Return on new investment 10% Return on new investment 20%
Growth in profits 5% Growth in profits 5%
Year 1 Year 2 Year 3 Year 1 Year 2 Year 3
After-tax operating profit 100.0 105.0 110.3 After-tax operating profit 100.0 105.0 110.3
Net investment (50.0) (52.5) (55.1) Net investment (25.0) (26.3) (27.6)
Free cash flow 50.0 52.5 55.1 Free cash flow 75.0 78.7 82.7
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Cosa guida la crescita dei profitti?
• Analytics:
g = ΔNOPAT / NOPAT = crescita dei profitti
IR = CAPEX / NOPAT = tasso di reinvestimento degli utili
ROIC = ΔNOPAT / CAPEX = rendimento (marginale) sul nuovo capitale investito (più correttamente: RONIC)
ROIC CAPEX IR
NOPAT NOPAT
CAPEX NOPAT
NOPAT
g
Il valore con la formula della rendita perpetua
• A company is worth the present value of its future free cash flows. For example, Company A can be valued as:
. . WACC) . (1
Flow Cash
WACC) (1
Flow Cash
WACC) (1
Flow
Value Cash 1 22 33
. . 10) . . (1
55.1 (1.10)
52.5 10)
. (1
Value 50 2 3
• In our simple example, cash flows grow forever at a constant rate.
Therefore, we can use the growing perpetuity formula to value each company.
via the Growing Perpetuity
Formula
g
WACC Flow Cash
Value 1
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Formalmente:
. . WACC) . (1
Flow Cash
WACC) (1
Flow Cash
WACC) (1
Flow
Value Cash 1 22 33
g
WACC Flow Cash
Value 1
1 n 1
1
2 1
1 1 1
3 2 1
2 1
1
WACC) (1
) 1 ( ] CF
g) 1 (1
WACC) Value[ (1
(1) - (2)
. WACC) .
(1
) 1 ( CF WACC)
(1
CF g)
(1
WACC) Value (1
(2)
. . WACC) . (1
) 1 ( CF WACC)
(1
) 1 ( CF WACC)
(1 Value CF
(1)
g n
CF CF g
g g
With n Infinitive and WACC > g
Da dove ha origine il valore?
As cash flow rises, what happens to value?
As weighted average cost of capital (WACC) rises, what happens to value?
As growth rises, what happens to value?
g
WACC Flow
Value Cash
1 But whatdetermines cash flow?
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La formula con i Value Driver-chiave
• In order to develop the key value driver formula, we will rely on two simple substitutions.
g g g
g
WACC 1 ROIC nopat
WACC
IR) (1
nopat WACC
Flow Value Cash
1Substitution #1
Cash Flow = nopat (1 – IR)
Substitution #2 Growth = IR × ROIC
g g
WACC
1 ROIC NOPAT
Value
Terminology Used by Consulting Firms NOPAT - After-tax operating profit
ROIC—Return on invested capital
WACC—Weighted average cost of capital (hurdle rate) g—Long-term growth in nopat and cash flows
La formula con i Value Driver-chiave
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As starting profit rises, what happens to value?
As ROIC rises, what happens to value?
As WACC rises, what happens to value?
As growth rises, what happens to value?
g g
WACC
1 ROIC NOPAT
Value
Da dove ha origine il valore?
Quale delle due vale di più?
• Despite identical earnings and growth rates, the companies have different earnings multiples because their cash flows are so different
– Value Inc. generates higher cash flows because it doesn’t have to invest as much as Volume Inc., thanks to its higher rate of ROIC.
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• Since the three variables are tied together, you only need two to know the third, so you can describe a company’s performance with any two of the variables.
• If the spread between ROIC and WACC is positive, new growth creates value.
• The market value of a company with a starting profit of $100 million and a 10 percent cost of capital is as follows:
Matrice crescita-redditività
7.5% 10.0% 12.5% 15.0%
2% $917 $1,000 $1,050 $1,083
Growth 4% 778 1,000 1,133 1,222
6% 500 1,000 1,300 1,500
ROIC
A
Valutare strategie alternative
• Assume your company earns a 15 percent return on invested capital, while growing at 2 percent. The new CEO has argued that the company should grow faster, even if it means sacrificing some financial performance. What do you think?
• Assume your company earns a 10 percent return on invested capital, while growing at 6 percent. The new CEO has argued that the company should focus on higher-
7.5% 10.0% 12.5% 15.0%
2% $917 $1,000 $1,050 $1,083
Growth 4% 778 1,000 1,133 1,222
6% 500 1,000 1,300 1,500
ROIC
WACC = 10%
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• As long as the spread between ROIC and WACC is positive, new growth creates value. In fact, the faster the firm grows, the more value it creates.
• If the spread is equal to zero, the firm creates no value through growth. The firm is growing by taking on projects that have a net present value of zero!
• When the spread is negative, the firm destroys value by taking on new projects. If a company cannot earn the necessary
return on a new project or acquisition, its market value will drop (and often does).
La creazione di valore: lezione appresa
Le determinanti della crescita dei profitti
• Before we value the two companies, let’s examine a general
relationship between IR (investment rate), ROIC (return on invested capital), and g (growth).
Growth = Reinvestment * Rate of Return
g = IR * ROIC
Company A: 5% = 50% * 10%
Company B: 5% = 25% * 20%
Company A
Investment rate (IR) 50%
Return on new investment 10%
Growth in profits 5%
Company B
Investment rate (IR) 25%
Return on new investment 20%
Growth in profits 5%
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