private equity: indias growth catalyst by j. maitra & associates
TRANSCRIPT
PRIVATE EQUITY: INDIA’S GROWTH CATALYST
BY J. MAITRA & ASSOCIATES
TOPICS
COVERED
VALUATION CONCEPTSVALUATION CONCEPTS
APPROACHES TO COMPANY & APPROACHES TO COMPANY & BUSINESS VALUATIONBUSINESS VALUATION
PRIVATE EQUITY IN INDIAPRIVATE EQUITY IN INDIA
VALUATION CONCEPTSVALUATION CONCEPTS
Valuations provide useful baseline to establish a value for a business as on today or a forecasted period
It serves as an alternate - to the role that major stock exchanges play for public companies - for small/unlisted companies
Assists in arriving at exit strategies for the Existing Owner & Prospective Financial/Strategic Investor to obtain value for their stake in the companies when they desire to sell
ABOUT
VALUATIONS
THE
ESSENCE
OF
VALUATION
Early Stage
Investing
• Simpler Valuation Process• Derived from Capital the
Company needs & % stake expected by VCs
Valuation of Large Public-Listed
Companies
• Actual Stock Price on Exchanges - function of supply-demand and investor preferences
• Analysts’ Estimates• They typically fall within a
reasonable band
• Companies are often privately-held
• Project rapid growth• Future performance subject to high degree of variability
In India, most investment
opportunities are in
companies that lie between these two extremes
VALUATION UNCOVERS WORTH OF MANAGEMENT
Is Derived Valuation >
Expected Value ?
Is Derived Valuation >
Expected Value ?
Might be an Opportune time to
sell
Might be an Opportune time to
sell
Opportunity for Business Owner to
work towards increasing Value of
the Company
Opportunity for Business Owner to
work towards increasing Value of
the Company
YES NO
THE
UNDERLYING
PRINCIPLE
APPROACHES TO APPROACHES TO COMPANY & BUSINESS COMPANY & BUSINESS
VALUATIONVALUATION
INCOME BASED APPROACH Discounted Cash Flows
Dividend Discount Model
ASSET BASED APPROACH Net Asset Valuation
MARKET APPROACH Relative Valuation using Multiples
APPROACHES
TO
VALUATION
INCOME
BASED
APPROACH
INPUTS• Free Cash Flows –
Forecasted Period• Cost of Capital – Cost
of Equity &/or Cost of Debt
INPUTS• Free Cash Flows –
Forecasted Period• Cost of Capital – Cost
of Equity &/or Cost of Debt
APPLICATIONS• Generally used for
firms likely to grow fast for few years & then
stable growth
APPLICATIONS• Generally used for
firms likely to grow fast for few years & then
stable growth
Free Cash Flows to Firm
discounted at Weighted
Average Cost of Capital i.e.WACC
ISSUES• Easily Manipulated
• Not Directly Linked to Market• Forecast Revenues & Costs – a
Challenge• Not Ideal Method for valuing
Firms with trouble, under-utilized assets
ISSUES• Easily Manipulated
• Not Directly Linked to Market• Forecast Revenues & Costs – a
Challenge• Not Ideal Method for valuing
Firms with trouble, under-utilized assets
* Ke is calculated using Capital Asset Pricing Model (CAPM) adjusted for Small Company Premium & Specific Company Risk Premium if any
Free Cash Flows to Equity
discounted at Cost of Equity i.e. Ke*
DISCOUNTED CASH FLOWSDISCOUNTED CASH FLOWS
INCOME
BASED
APPROACH
Contd….
INPUTS• Current Dividend Payout
• Growth in Dividends – High Growth, Tapering Phase & Stable Growth
• Duration of the Phase• Cost of Equity
INPUTS• Current Dividend Payout
• Growth in Dividends – High Growth, Tapering Phase & Stable Growth
• Duration of the Phase• Cost of Equity
APPLICATIONS• Companies that pays
out dividend without fail
• Companies where business model does not
envisage growth but make reasonable cash
APPLICATIONS• Companies that pays
out dividend without fail
• Companies where business model does not
envisage growth but make reasonable cash
DIVIDEND DISCOUNT MODEL
DIVIDEND DISCOUNT MODEL
ISSUES• Applicable to limited number of
companies• Undervalues Companies that pays
no or less dividends• Investors, besides dividend also
look for capital appreciation• For Academic Purposes Only
ISSUES• Applicable to limited number of
companies• Undervalues Companies that pays
no or less dividends• Investors, besides dividend also
look for capital appreciation• For Academic Purposes Only
ASSET
BASED
APPROACH
INPUTS• Current Value of Assets including Real Estate
• Current Value of External Liabilities • Normalized Profit forecast for remaining period of
Current FY• Adjustments w.r.t non-realizable/redundant
assets/liabilities
INPUTS• Current Value of Assets including Real Estate
• Current Value of External Liabilities • Normalized Profit forecast for remaining period of
Current FY• Adjustments w.r.t non-realizable/redundant
assets/liabilities
APPLICATIONS• For Strategic Investments• For holding Companies
• Applicable for companies with significant tangible assets &
Start Ups
APPLICATIONS• For Strategic Investments• For holding Companies
• Applicable for companies with significant tangible assets &
Start Ups
Generally, a Forward
Valuation for current FY is carried out
NET ASSET VALUATIONNET ASSET
VALUATION
ISSUES• Limited Applicability for
Operating Entities• Not used when investments are
financial in nature
ISSUES• Limited Applicability for
Operating Entities• Not used when investments are
financial in nature
RELATIVE
VALUATION
INPUTS• Identification of similar Transactions or Listed
Companies; the former is preferred• Deriving Various Multiples – P/E, P/BV,
EV/EBITDA, EV/Sales• Adjustments to Multiples – Illiquidity Discount, Size Premium, Execution Risk, Control Premium if
applicable• Applying the resultant multiple to get Enterprise
Value/ Equity Value of the company
INPUTS• Identification of similar Transactions or Listed
Companies; the former is preferred• Deriving Various Multiples – P/E, P/BV,
EV/EBITDA, EV/Sales• Adjustments to Multiples – Illiquidity Discount, Size Premium, Execution Risk, Control Premium if
applicable• Applying the resultant multiple to get Enterprise
Value/ Equity Value of the company
APPLICATIONS• The most widely practiced
approach as based on actual transactions
APPLICATIONS• The most widely practiced
approach as based on actual transactions
RELATIVE VALUATIONRELATIVE
VALUATION
ISSUES• Difficulty in finding similar Listed
Companies/ PE/ M&A transactions
ISSUES• Difficulty in finding similar Listed
Companies/ PE/ M&A transactions
Final Valuation is a Derivative of Mathematical Weights applied to various approaches & Professional Judgment
Both methods involve subjectivity
Final Valuation should prove the test of Common Sense & Reasonableness
Last but not the least, parties concerned Negotiate hard on arriving at a Value of the Company but the call is largely a gut feel valuation by the investor
REACHING
A
CONCLUSION
ON
VALUATION
EXIT OPTIONS IPOs
Mergers & Acquisitions Management Buy-out Sale to Another Fund
Buyback by Promoter/ Company Stock Market
EXIT
OPTIONS
AVAILABLE
TO
PRIVATE
EQUITY
FUNDS
Duration of Private Equity/ Venture Capital Investment normally ranges from 3-7 years
In case of Buyback by Promoter/Company , the value at which PE Fund would exit is IRR or market-based and is
pre decided at the time of investment on a certain valuation
PRIVATE EQUITY IN INDIAPRIVATE EQUITY IN INDIA
• Very rapid expansion in number of India-focused funds
– Risen from 8 in 1995, to 300+ in 2010
…Investor DilemmaCurrent PE Market…
• Large number of “first time” funds
– ~15 India-dedicated private equity funds
with at least one fund vintage
• Evaluating managers without track records
• Selecting funds from a broad universe
• Gaining access to the best funds
VALUATION
IS
TEMPORARY
BUT
CONTROL
IS
FOREVER