So, welcome to today's webinar on advanced DCF valuation.

My name is Deborah Taylor. I'm a trainer at Financial Edge.

My background before joining Financial Edge is I worked in investment banking in equity research for nearly 10 years.

And before that I spent eight years as a chartered accountant.

So lots of experience in finance.

And, uh, we'll be covering, uh, a few topics today on advanced DCF valuation.

All of those quite close to my heart, uh, because DCF is of course, an important valuation technique.

Let's have a look at what we are going to be covering.

We're going to cherry pick the topics because, uh, an hour is not that long, uh, in terms of DCF.

So I'm going to do three topics for you today.

The first topic is discounting with a variable valuation date that's effectively valuing a company at the mid point or some point during the company's fiscal year.

I know in a lot of entry level DCF training materials, you assume you're valuing the company on the first day of its fiscal year. And in reality, that's not usually the case. It's usually only the case one day in 365.

So we will refine our techniques for DCF valuation so we can value them, uh, on any day during the fiscal year and come up with a robust valuation.

We're then going to move on to WAC considerations.

We're going to extend our normal WAC formula to think about other elements that we might have in a company's, uh, capital structure.

And the final topic that we will be looking at is some of the parts valuation.

Uh, so how we value conglomerates, which is a very practical, uh, approach and incredibly useful and not at all complex actually, as well.

Um, in terms of, um, the, uh, progress for the webinar today, as we are going through, if you have any questions, please do drop messages, uh, either using the chats, uh, I can monitor the chat as we're going through, or, uh, there is a q and a box, um, available to you as well.

Um, I'll keep my eye on those, uh, as we are going through.

And occasionally I will pause just to check if anyone has any questions.

Uh, but let's dive in with no further ado.

Uh, let's start off with our first topic, which is discounting with a variable valuation date.

So, as I mentioned, we rarely value a company right at the beginning of a fiscal year. So we need to be able to refine our valuation approach, um, so that we are thinking about exactly how long we discount our cash flows for.

It's also really useful because if we're going to keep revisiting our DCF, let's say we build a valuation at a point in time and we want to roll it forward, we want to do so in a way that we're not going to distort the valuation because of the timing, uh, of the fiscal year end relative to our valuation date.

So how do we do that? Well, the first thing we need to do is think about how long we're are discounting our cash flows for.

Uh, you can see a little timeline on the screen there.

Um, and that timeline shows you that we're going to be valuing this company at some point, uh, midway through a company's fiscal year.

And let's assume that this valuation date is the 30th.

My pen's not working very well today.

It's not working at all. Okay, we'll assume the, uh, company's valuation date is going to be 30th of June, and the company has a fiscal year end of 31st of December.

Okay? Um, and we need to think about how we can adjust our discounting, uh, for the fact that we are buying it midway through its fiscal year.

Now, ordinarily, uh, one of the things we do, uh, in any DCF is we think about the timing of the cash flow relative to a company's fiscal year end.

Now, if we're going to midyear adjust our cash flows, that assumes that if a company's cash flows are being generated over a period of time, then the cash flow on average will appear at the midpoint.

Yeah. So if it's a whole year's worth of cash flows, then usually that would be at the midpoint in that fiscal year.

If we are discounting a company's cash flows for six months, then the midpoint of that year, three months from the valuation date would be the period for which we're going to be discounting our cash flows.

So we're going to use a mid period adjustment when we are discounting, and we're going to make sure that that mid period adjustment is appropriate relative to the valuation date.

So assuming this company is being valued on the 30th of January, and its fiscal period is the 31st, uh, it has the 31st of December year end, well, the first cashflow, if it appears at the midpoint between 30th of Jan, of, of June and the 31st of December, then that mid period point is going to be the 30th of September.

So we're going to be discounting that first cashflow by a quarter of a year.

So you can see that our discount factor on, uh, for period one is 0.25 a quarter of a year.

Now, the second period's cashflow that occurs at the midpoint between the 1st of January and the 31st of December.

So that's going to be the 30th of June, and we're discounting that back to 30th of June in the previous year.

That's our valuation date.

And so we're going to be discounting that cash flow for a whole year, even though we are mid period adjusting the cash flows, this next period would be a whole year away from that.

So it'd be, uh, our discount factor uses, uh, a year count of two.

And the next period, uh, has a, uh, year count of three in our discount factor.

Okay? So you can see that once we get into period two and subsequent periods, we're just going to add one to that discount, uh, factors year count.

So let's start to think about the steps that we're going to, uh, use when we're using a, uh, a variable valuation date.

The first thing we need to do is identify the valuation date in the example I gave you, uh, it was the 30th of June.

In reality, we use your buying a company today.

Uh, there is an Excel function, which allows us to, uh, automatically calculate today's valuation date, and that's the today function.

So if you input equals today and then just empty brackets or parentheses, then that will automatically excel will automatically generate today's date.

Um, we're then going to calculate the cashflow date.

So it's effectively putting our mid period adjustment in, and that's going to be the average of the period start and period end date.

And for that very first period, that's going to be the average of the valuation date relative to the first period end date.

We're then going to calculate the number of days for discounting.

So that's the number of days between the valuation date and the cashflow date.

We're then going to convert that into a year count.

So we basically divide our days for discounting by 365 to get, uh, the number of years, uh, as a decimal, uh, that we can put into our discount factor.

So then we calculate our discount factor using that year count.

We then need to make a further adjustment because we need to recognize that we're only discounting future cash flows.

If we're valuing a company on the 30th of June and it has a December year end, we're effectively only going to need to discount six months worth of the first period's cash flows.

So we're going to apply a time apportionment calculation to the first period's cash flows only.

Okay. So as you can see, we've been given a formula here, which means we take the first four year's cash flow forecasts, and we time apportion those. That's the period end date for the first fiscal period, less the valuation date. That would give you the number of days between those two points divided by 3 6 5 to give it a fraction of a year that we then, uh, multiply by that first four year's cash flow.

Okay? That's the theory.

I think it much easier if we actually go into an Excel, uh, calculation to demonstrate this approach.

So let's go into the, uh, workout file for DCF.

I'm just going to open that up. So advanced DCF valuation.

Um, and we're going to be looking at workout five, so I'll just give you a second, uh, to get that open on your own screens.

Now, uh, workout five.

Uh, an analyst has prepared the following full year forecasts.

We're going to use the assumptions and data provided to value the company at the 1st of March, 2021.

Now, you might see if you have a look down that this is a company that has a December fiscal period end.

So we're effectively the company two months into its fiscal year.

We're going to assume the cash flows fall in the middle of each period.

So we're going to discount as if the cash flows occur at the midpoint in each period, uh, and we're going to discount those back to the 1st of March, 2021.

Um, now because it's a fictional example, we're using a historical date.

If you did want to, uh, do this, uh, for a real DCF valuation, of course, as we saw on the slide, you can use the today function.

Um, and I'll just show you if you use the today function, uh, as you can see on my screen, that does generate today's date, which is the 12th of September, 2025.

Um, but because it's a historical example, I'll stick with a valuation date of the 1st of March, 2021.

Now, we've been given a long-term growth rate, which we can use in our terminal value formula, and we've been given a wac, uh, cost of Capital U that we will use in our discounting.

Now, the row below, um, the dates gives us the free cashflow forecast for four periods.

And for each of those periods, we're going to work out the timing of the cash flows.

Now remember, we're going to use the average function for this, and for the first fiscal period, we are looking for the midpoint between the valuation date of the 1st of March and the end of the first forecast year.

So the midpoint between the 1st of March and the 31st of December.

So I'll use the average function, and that tells me that the midpoint between those two points in time is the 31st of July, 2021.

Now, in subsequent years, we're just looking for the midpoint during the fiscal year.

So I'm going to, again, use the average function, but this time, and for all subsequent years, it's going to be the midpoint between the end of the prior year and the end of the current of, of the forecast year.

So that gives a midpoint, uh, and cashflow for the second forecast year, uh, on the 1st of July, 2022. And intuitively that should make sense to us because it's a December year end.

So the midpoint would be around the 30th of June, uh, or the 1st of July.

I can then copy that formula over to the right.

And, uh, as you see, we end up with the same cash flow date, but just rolling forward a year, uh, for all subsequent years.

Okay? Right? We now need to calculate the number of days that we're going to discount those cash flows for, and for all of our cash flow dates, that's going to be the, the date of the cash flow, less the valuation date.

Now, if I lock my cell reference to the valuation date, it means I can reuse my formula.

And when I hit enter, you can see that Excel automatically calculates the difference between two dates, uh, in, in the number of days.

So it's 152, uh, days, very roughly that we're going to be discounting that first cash flow for.

And if I then copy that formula to the right, I end up with a number of days that I need to discount the cash flows for all subsequent years.

Okay? We now need to convert that into a year count.

Um, and therefore we are going to, um, divide each of those days for discounting by 365.

Okay? So that first forecast period, we're going to be discounting by 0.4 of a year, okay? And that's different to, uh, the, uh, the decimal, uh, number, uh, for subsequent years.

'cause remember, we're using a mid period adjustment for the first fiscal period between the valuation date and the end of the fiscal year. And for all subsequent years, it's the midpoint in the fiscal year.

So in all subsequent years, it's a 0.3, uh, after the decimal pl, uh, place.

And we are now going to take that year count and put that into our discount factor.

So one divided by one plus your cost of capital, you're using discount factor calculation.

And if you lock your reference using the F four key to your discount rate, you can reuse the formula.

And you can see there, I've just raised that to the power of, uh, my year count.

And I'm then going to copy that over to the right, and we now have a discount factor, which reflects the timing of those cash flows in each year.

Okay? Um, let's keep going.

Um, if you remember the last step on the slide that I showed you, uh, in terms of our discounting is to time app portion, the cash flow for the first period, because we've got a full year's cash flow forecast here of one 3168.3, but actually we only have 10 months of cash flows left on the 1st of March.

So what I'm going to do for that is I'm gonna take the difference between my fiscal period, end date and my valuation date, and I'm going to divide that by 365.

So effectively, I'm calculating sort of 10, 12 ish of, uh, as a fraction, and then multiply that by the full year's cash flow.

And that gives me my, uh, cash flow.

Uh, for my first fiscal period, I need to discount of 2647.5.

I don't need to time a portion subsequent periods, because of course we have whole year's worth of those cash flows, uh, still to discount.

The next step is then to take my, uh, to calculate my terminal value.

And we'll just use the normal growth perpetuity formula for this.

Um, and because the grow growing perpetuity formula assumes each cashflow is one year away from the final cashflow date, um, and then discounts, and back to that final, uh, cashflow date, uh, we're effectively calculating our terminal value as at the first of, uh, July, 2024.

So let's use my usual formula for that.

So I take my final year's cashflow, multiply that by one plus my long-term growth, and divide that by my cost of capital, less my growth rates.

And that gives me a terminal value there of 62958.8.

The next step is to calculate the present values of each of my forecasts free cash flows.

And remember, for the first period, I'm using my time apportioned cash flow.

So I take my cash flow, uh, multiply it by my discount factor, and in subsequent years, I take the full year's cash flow and multiply that by my discount factor.

So we now have the present value of each of my explicits cash flows.

Um, I also need to calculate the present value of my terminal value, and we do that in the usual way, so my terminal value multiplied by my final year's discount factor.

And then if I sum those together, so all of my cash flows plus the present value of my terminal value, I have an enterprise value there of 58349.5.

And that's, um, a very precise valuation, uh, reflecting the fact that we're valuing the company to the 1st of March, 2021.

Now, what's great about its approach is that all the formulas that we've used are kind of linked to our valuation date. So if, let's say, for example, I built this DCF valuation and I wanted to revisit, uh, my valuation a month later, let's say on the 1st of April, 2021.

So 1st of April, 2021, um, look what happens to my enterprise value, uh, my enterprise value, it goes up just very, very slightly, which is what we would expect because the future cash flows are growing as they become a bit closer towards our valuation dates.

Um, then the value company, uh, is increasing.

Um, however, you'll also have noticed that our free cash flow that's discounted in the first fiscal period has gone down.

And that's a natural kind of offset because what's happening is that as the date, as we roll forward through the year, the remaining cash flows within that first fiscal period, they reduce and they become slightly closer to the valuation date.

So this really is the, the benefit of this approach is that if we're going to keep revisiting our DCF and updating our valuation date, it avoids a spike, uh, that that can occur If you update your valuation date, and you, particularly if you don't time a portion, your first period's cash flow because you end up with the, particularly if you roll over, over from one fiscal period to another, the next year's cash flow, you kind of get, it comes nearer to, to the valuation date.

Suddenly that cash cashflow is going to be discounted, um, by a full year, um, as when you roll over, uh, to the next fiscal period.

So this is kind of the most technically robust way of updating your valuation as you roll through the fiscal year and as you roll into the next fiscal period.

Okay. So that is our first topic, uh, valuing with a, a variable valuation date.

I'll just pause for a second in case, uh, any questions, uh, are coming in. I've just had a look at the q and a and, uh, I can't see any questions in the q and a.

Oh, I can see a question in the chat. Apologies, I missed that.

Uh, somebody had a question about the materials.

I will reshare the link now for you.

Uh, hopefully even if you didn't have the materials in front of you, you were able to follow, uh, as I was working through that example.

Okay. Um, I haven't had any other questions coming in.

So I think we're going to move on to our second topic.

And our second topic is, uh, weighted average cost of capital considerations, and in particular, how we can modify our weighted average cost of capital formula when we have an, um, more than just debt and equity in our capital structure.

So very, the usual, the traditional way and simple way of calculating our weight of average cost of capital is to take our cost of debt and the proportion of debt financing.

We also incorporate a tax shield, um, for that.

Um, and then we add to that the cost of equity and the proportion of equity in our capital structure.

Um, and this is combined to give our weighted average cost of capital.

And remember, we use the target capital structure when we're building our wac, uh, calculation.

And of course, the variation is going to be very sensitive to that cost of capital.

There's a lot of, uh, estimates within that input.

Um, and, uh, therefore we need to make sure it's as robust as possible.

Um, the slightly less friendly version of the WAC formulas just shown on the screen here, um, it is exactly the same as what I've just talked through, but it does explicitly, uh, give you all the different inputs there.

So we've got the cost of equity, uh, and the equity weighting, the cost of debt and the tax shield.

And remember, it's the marginal tax rate that we use, uh, when we're calculating the wac because we're thinking about the tax fav, which occurs when, uh, a company pays interest on its debt.

Um, and, uh, we then have to multiply that debt term, uh, by the proportion of debt financing.

But what happens if, uh, a company has financial assets or other sources of finance that we view are part of their target capital structure? So not just transient financing items.

So it's important that we take a view on what their target capital structure would look like.

And it can be that companies have maybe some structural investments in other companies, or more likely some reasons structurally for holding onto a particular cash balance.

Uh, even once the company has reached maturity, which is when we usually look, uh, for companies be at its target capital structure, um, I do highlight the point that I said, uh, it's gotta be a structural reason because in general, cash is not really generating a very high return for companies, certainly a much lower return than it would generate from investing that cash in its business.

And so it can be a bit of a drag on the company's overall returns.

Um, therefore, we generally, um, don't assume that a normal operating business will have large cash balances in its target capital structure.

So it could be, for example, that maybe it's a company that takes customer deposits, uh, or some upfront cash payments sometimes, um, and or if there's a regulatory reason why it would have a large, uh, cash balance, uh, even in its target capital structure.

Now, how do we modify our formula when we do have other forms of financing? Well, you can see here we extend our WAC formula here. We have a company which is not just financed by debt, debt and equity.

It's also financed with a non-controlling interest within equity.

So maybe there is a subsidiary where another party has a, uh, non-controlling stake, and we view that as a permanent feature of its capital structure.

Um, maybe this is also a company that has cash, which is part of its target capital structure.

Now you can see in the formula below, we've extended that WAC formula to incorporate those extra financing items.

Now, let's talk about, uh, those extra items.

The easy one is the non-controlling interest. Okay? So you can see there we've taken the cost of the non-controlling interest and multiplied that by the percentage of financing provided by that non-controlling interest.

So that term looks very similar to the equity term, uh, within the normal WAC formula.

Um, you might ask why we would have to assign our own cost of, uh, the non-controlling interest.

We have to bear in mind that a subsidiary with a non-controlling interest might not have the same risk profile as the rest of the group.

And therefore, uh, let's say for example, it's a part of the group that's very low risk, um, and, um, therefore it has a lower risk profile and a lower cost of financing, then that, uh, the returns for the non-controlling interests would generally be considered to be lower than for the rest of the business.

In terms of the cash financing proportion, um, we need to, uh, incorporate the return on cash.

It's usually going to be quite low.

Um, we usually start off assuming it's, uh, uh, kind of a treasury yields.

Um, and we are going to multiply that by the proportion of financing, uh, that's associated with cash.

But we also need to, uh, identify, uh, two other little things.

First of all, cash when it's generated, um, is, uh, going to be, uh, the interest income that's generated. It's going to be tax de uh, it's gonna be taxable, and therefore we need to put a tax adjustment in there. So you can see we multiply that by one minus, uh, the tax rate.

And you'll also notice that the term has a negative sign in front of it.

The reason that we have a negative sign in, uh, in front of that term is because of course, we generate a return on cash rather than it having a cost associated with it.

Okay? So a negative sign for our, uh, uh, cash term within our extended WAC formula, right? Uh, before, uh, we, uh, you know, in fact, the next thing we're going to do, we are gonna have a look at a workout that incorporates that.

So let's go into our workout file, and we are going to have a look at workout six.

So make sure you've got that in front of you.

Uh, workout six, ask us to calculate the wac the weight, average cost of capital for the company below.

We're going to start off with a very simple example, assuming that the company has no financial assets in the target capital structure.

And we are then going to modify it to assume that financial assets are 5% of the enterprise value and debt remains at 40% of the enterprise value.

So kind of a, with and without, uh, version of the WAC formula.

Um, let's start with a simple approach.

Uh, the first one, uh, no financial assets.

So very, uh, standard generic WAC calculation here.

We start with the equity term, and that's cost of equity of 9% multiplied by the financing, the proportion of financing coming from equity.

Now, we know that 40% financing, uh, comes from debt.

So if we take one minus the 40%, that will give us our 60% equity financing.

We're then going to add to that the debt term.

So we take the cost of debt, we apply our tax yield for debt, one minus the marginal tax rates, and then multiply that by the debt financing percentage in the capital structure.

And we get our cost of capital there of 6.5%.

Okay? So, uh, we've now, um, built our standard WAC calculation.

Hopefully that should feel very comfortable to you all.

Uh, the next one we're going to do is include financial assets in the capital structure.

Now I'll see if my pen's working. Oh, it's working here.

Okay, great. So, um, I'm going to just build my little EV bridge to show, uh, what's going on here.

So we have an EV uh, we have cash, uh, and then we have debt, and then we have equity.

Now, um, we are told to assume that debt remains at 40% for the EV.

Now, let's assume that EV is 100 and the debt is 40.

Um, the cash or financial assets in the capital structure are 5%.

So that, that would be five.

Um, and we can now imply what percentage financing is going to be coming from equity.

So if we go up over at EV bridge, then that implies that our equity value must be 65.

So I therefore is 65% of the financing.

Okay? So that's the first thing is to calculate the equity financing in that target capital structure.

Uh, so in terms of putting that into a formula, we're going to take one minus, uh, and that's the debt financing percentage.

And then we add the cash financing percentage. So effectively going over the EV EV bridge, the other way that to give 65%, okay? Um, we can now hop in our extended WAC formula. Okay? So we start off with the equity term.

Uh, cost of equity is still 9%, and we're going to multiply that by the equity financing percentage.

We're then going to add to that our debt term, multiply that by our one minus our tax rate to give our tax shield.

Multiply that by 40% because we know that it's still 40% in the capital structure coming from debt.

We're now going to incorporate the cash term.

Now remember, cash, we generate return on cash.

Uh, so we're going to put a negative sign in front of that.

And the return on our cash or our financial assets is 6%.

Uh, it is going to be taxed.

So we are going to have to put in a tax adjustment one minus the marginal tax rate, and we are then going to multiply that by the percentage of the financing coming from those financial assets.

And that gives us our new cost of capital and a cost of capital of 6.7%.

Now, you might notice that cost of capital is higher than our original cost of capital.

Now, that might seem a bit counterintuitive because we're including cash in our capital structure.

Why does that raise the cost of capital? Well, effectively what we've done there is we've assumed a return on cash of 5%, but the additional financing for that is coming from equity.

Okay? And equity's expensive.

Um, so the uplift in the equity financing percentage is what's giving rise to that increase in our cost of capital.

And actually when we think about it, we step back and we think, well, we know that companies, um, are so should try and avoid holding cash in their capital structure, that it creates an inefficiency in the capital structure because that cash isn't working for the business.

Um, and now we actually see that in economic terms, actually it does make their cost of capital more expensive, that they're being inefficient. It's not the optimal capital structure.

And that is the reason why it's important.

If we are going to use extended WAC formula, we only do that in situations where we are confident that there is a structural reason that the company would need to have cash, uh, in its target capital structure.

So that is our extended WAC formula, which I will leave there.

Um, I will just pause as before, I'll just pause between topics in case anyone has any questions.

Okay. Uh, it seems like, uh, there's no questions coming in for that.

Um, in that case, we'll move on to our third and final topic.

And our third and final topic is I can just get my slides to scroll forward.

Try that again.

I think I'm just going to stop sharing for a second.

'cause I think actually what's happened is my PowerPoint stopped working.

I just have to give, have a little bit of patience while I just, uh, close and reopen my PowerPoint.

'cause it's decided to, uh, crash on me, which is rather helpful.

Okay, I'll just share my screen again.

Um, great. Um, so hopefully you can now see my slides again.

Uh, we are going to, uh, have a look at some of the parts valuation.

Um, so one of the challenges we have, particularly if we're valuing public companies, um, is that public companies tend to be very diversified businesses. They're much more mature, uh, than startups, which are generally pure play businesses.

And, uh, when it comes to valuation, uh, we are therefore, uh, faced with a challenge of how to, um, think about valuing very distinct parts of the business.

Okay, just going to scroll back a slide.

Um, so here's an example of a conglomerate Walt Disney Company.

Um, and it has three segments to the business.

It has the broadcasting and cable business, it has the theme parks business, and it has content and movie production business as well.

Now, those businesses have very different risks and returns associated with those.

For example, a broadcasting and cable business, a relatively high growth part of the business, and, uh, not too capital intensive.

Um, generates, therefore results in companies in that space, generally having quite high multiples.

So for example, the likes of Netflix, um, multiples around 20 times, uh, EV to EBITDA, the theme parks business is much more capital intensive, okay? And lowering growth, uh, therefore tends to have, uh, lower multiples, usually EV multiples around 15 times.

And these numbers are bit, a little bit out date.

Um, and then finally, the content and movie production business, which is always the bit that, you know, grabs the headlines. It's the exciting bit, but it's actually the risky bits.

Companies going to spend a lot of money on movie, uh, content, uh, only for it to not do very well, uh, with audiences and with the box office.

Um, so effectively they, they take a portfolio approach to that.

You kind of maybe produce five movies expecting one of the five, uh, to be successful.

Um, and as a result of that level of risk, the multiples associated with that, uh, industry, uh, are generally quite low.

So EV t EBITDA around 12 times.

Uh, so if we were valuing malt Disney, uh, what we do about finding an appropriate multiple, um, for those, for that whole business, uh, well, one of the things that we can do is we can use some of the parts valuation.

And what we do effectively is we treat each part of the business as a separate, uh, standalone business, uh, with its own multiple, its own earnings and cash flow forecasts.

And we then, once we've calculated the enterprise value for each segment, we add up those parts of the business together. That's why it's called some of the parts.

And that gives us the combined enterprise value.

We then in the normal way go over our equity to EV bridge.

So subtract net debts to get your equity value.

The only slight complication with this, um, is that in general conglomerates, uh, or often, uh, conglomerates can be valued at a premium or a discount to some of the parts.

Um, it would be a premium if, um, in example, for example, Walt Disney. There are obvious synergies between having those different segments all combined under the same umbrella.

Um, and, uh, if there are, however, um, maybe distractions for management, uh, from having, um, very distinct businesses together, um, that can result in a conglomerate discount.

Okay? And, um, you know, or it could be that there's a part of the business, uh, although it's high growth, it's very hard to see that value, uh, when it's combined in with maybe a much more mature indus uh, mature industries.

Um, and therefore, um, that value is not fully recognized or reflected in the share price.

Um, in reality, if a company is continuing to trade as a discounts to some of the parts, ultimately what the company should do is plan to spin off or sell down, uh, that, you know, one of the segments, uh, that they think is responsible for that discount.

So, um, it's, you know, not something that should really persist at a, to a large extent for a very long period of time.

Um, the big challenge for us is if we are valuing a conglomerate, uh, we need to estimate what that conglomerate premium or discount is.

Um, and the best way to do that is to look back over time, historic multiples for, um, each of the segments, um, compared with the valuation of the entire business.

Um, how does that, how did the, some of the parts compare to the value of the business historically? Now, if this business hasn't changed in the last few years, we would normally assume that any historical discount com continues to apply, uh, going into the future.

Okay? Um, so that's the methodology.

Um, I thought it'd be fun. It is a Friday, uh, if we, uh, do some of the parts valuation for a real company, and I'm going to do that for a company we all know.

Um, and that company is PepsiCo.

It is a conglomerate because it's a beverages company with a snacks business associated with it.

Now, I'm going to use Felix, uh, for this.

So I'm just going to bring my, uh, Felix, um, information onto the screen now.

Um, if you have Felix, um, feel free to, uh, follow on, uh, along on your own screen.

Um, so Felix has, uh, is our database of learning materials, but also has, it has a lot of data content in there, and it has filings for companies, uh, as well as, uh, valuation information.

In fact, if I scroll across the valuation tab, you can see there we've got some, uh, nice valuation information for Pepsi.

And also importantly for this example, uh, a way of building very quickly some comps analysis, uh, for the different parts of the business.

Um, the other thing I'm going to do is be building this just in a sort of a, almost a blank Excel file.

So you'll notice if I, uh, I'm going to just scroll to the next tab. I've got an a blank tab apart from the fact that I've got the different segments, uh, for PepsiCo just listed on this screen here, so that I can sort of get myself started relatively quickly in building my valuation.

Now, what I'm going to do is I'm gonna identify, first of all, in the latest full year financials, uh, what the, uh, EBIT splits are for the different parts of the business and the most material segments. And that's the free Tolay North America business. That's the snacks business for North America.

Uh, the North America Pepsi, uh, business. That's the beverages portfolio for North America.

They then have a European segment, and then they have a number of much smaller segments, latam.

Um, and there's a Quaker Oats business as well.

And, uh, we're going to just put all those together.

'cause a lot of those are emerging markets, uh, segments.

Now, if I go into, uh, Felix, I can find their latest, uh, full year press release.

And, um, if I scroll down in that, or, uh, lucky for me, I've already annotated, uh, their segment splits, um, for Pepsi.

Um, now you can see here, uh, quite a long way down in their press release for their 24 results, they have their operating profit for free tolay, uh, they've got Quaker Foods, but as I said, that's quite a small part of the business.

And there's PepsiCo, latam, Europe, and some other parts of the world, which are, you know, generally considered to be emerging markets.

And, um, what I'm going to do is I'm gonna take the, um, the, uh, that's the adjusted EBIT, uh, rather than the reported figures.

'cause you can see there's lots of things like restructuring and impairment charges, which are not so predictive, uh, for next year's earnings and cash flows.

So I'm going to take these figures from here.

So I'll take the 6 4, 7, 5 for free tolay and the North American, uh, beverages business. That's 3 1 0 4.

Uh, and I will also take the European, uh, values, uh, of 2, 2, 8, 7.

And then I'm going to have, uh, the residual amounts all calculated in my spreadsheet.

Let's put those numbers into my spreadsheet.

So the North American business was 6 4 7 5 in terms of its clean EBIT.

Uh, the, uh, PepsiCo business was 3 1 0 4.

And this is in, uh, millions of dollars, uh, Europe, uh, it was 2 2 8 7.

Uh, the total, uh, adjusted EBIT for PepsiCo was 14 6, 9, 8.

And therefore, I can use that to calculate the residual, which is latam and rest of the world.

So if I just subtract all the other segments from that total figure, I get a latam and rest of the world EBIT of 2, 8, 3 2.

Now, I'm going to take, uh, these numbers and convert 'em into percentages.

Okay? I want to know what percentage that free tolay figure is relative to the total.

And I'm just going to lock my reference, the total figure, so I can reuse my formula and alt HP to convert that into a percentage.

So the free tolay business is the biggest part of the business. It's 44%.

And when I copy down, um, I've then got the other parts of the business.

We've got the, uh, 20%, 21% PepsiCo beverages business, 15% for Europe, and 19% for the rest of the world, and latter.

Now, what I'm going to do is I'm gonna use that to estimate a segment for forecast for the company's, uh, ebitda.

So I'm going to assume that those splits also apply to, uh, the EBIT DA of the business.

So, for example, free tolay also is 44% of the EBITDA of the entire group.

Now, that is obviously assuming that the company's, uh, the capital intensity of each segments is similar, which is a bit of a, a leap.

But, you know, in the time we have, uh, we're going to have to sort of make some biggest, uh, assumptions here.

Um, I'm now going to go back into my, uh, Felix valuation screen.

Uh, 'cause when I scroll down, I can see that the, uh, FY one EBITDA, the forward EBITDA for PepsiCo is 18 0 6, 3 0.5.

Okay? And I'm going to take that, let's see if I can copy that, uh, and pop that into my spreadsheet.

Okay, so 18 0 6, 3 0.5, that's my full, uh, ebitda.

And I'm then going to apply my splits to, uh, that figure.

So take the percentage for the free to today business, apply that to the full business EBITDA.

So it should Be a multiply, Try that again.

There we go. Uh, so that gives me, um, an estimated EBITDA for free today for next year of 7 9 5, 7 0.6.

Um, I'm going to go back into my formula and just lock my reference, uh, to the total business EBITDA so I can reuse my formula.

So I'll copy that down. And I've now got my split SU applied to my total ebitda, uh, for, uh, PepsiCo.

Um, and I can use that once I've got multiples for each segment, I can apply the multiple to each, uh, ebitda, uh, forecast for the segment to come up with my, um, some of the parts valuation.

So the next thing I need to do is find some multiples I can use.

And I'm going to use FY one EBITDA multiples.

Okay? And, um, I'm going to use my, um, Felix comps builder for this.

The first thing we're not trying to buy is the free tolay business.

Now, you'll see that I've already pre-populated my comps table in Felix with some food and snacks businesses. There's Monez, there's anova, which is the former Kellogg's business, or part of it, which was separated out, um, split out into two parts, uh, a little while back.

Uh, there's General Mills and ConAgra brands, so all very well known, uh, well regarded food and snacks businesses.

Um, and you can see that in Felix, we have the forward ebitda, um, of those companies and the median value excluding Pepsi of all of those companies. That's 13.1.

So I'm going to take that and put down in my spreadsheets, okay? And I can then multiply that, uh, by my, uh, forecast EBITDA to give the implied valuation for the free tolay segment.

And that's about $104 billion.

Um, I'm then going to do the same for the PepsiCo Beverages business, but I need new comps for that.

So if I go back to my comp comps builder, um, I'm going to get rid of the food businesses here, and I'm going to, uh, add in some publicly listed, uh, beverages companies. Now, of course, uh, the main, uh, competitor for Pepsi and the beverages side of things is Coca-Cola.

So we must have that as a comp.

I'm also going to include Monster because Pepsi does have a steak in, uh, rockstar and energy drinks company.

And another very large, well-known, uh, beverages company in the US is Keurig Dr. Pepper. So I'll add that in.

There's possibly others that we can include.

Uh, I'm not going to just, 'cause actually it's quite convenient that the median of those three companies is of course, then Coca-Cola.

So it gives us basically the beverages business for Pepsi valued on Coca-Cola's multiple, which seems about, um, not, uh, uh, too, uh, far away from what you'd expect.

So I'm going to take that 19.1 times multiple, pop that into my spreadsheet, and that then gives us my valuation for my, uh, beverages.

Business of seven, just under $73 billion.

Um, I now need to find a multiple for Europe.

Now, we don't have the comps builder for European companies, but what we do have in Felix is we have a, uh, data, sort of aggregated sector multiples.

So I'm going to go into here and for Europe, we have a relative valuation table by sector.

Um, and if I scroll down, um, beverages and tobacco, so I've got beverages and tobacco.

Um, if I go across my four ebitda, uh, for, uh, EV to ebitda, multiple for beverages in Europe is about 10 times.

Of course, European companies do trade at a slight discount to the US these days.

So 10 times multiple there.

I can then, uh, multiply that multiple by the, uh, forward EBITDA for that segment.

And I get evaluation for that segment of around $28 billion.

Um, the last segment, even trickier, which is basically all the emerging markets segments kind of lumped together.

Um, I did do a bit of research, uh, before this webinar, and I came up with, um, some data on that.

Uh, so in latam in particular, beverages, uh, and Staples, companies tend to trade on around nine times.

So I'm going to use that as my multiple, uh, for my, uh, remaining segment.

The final step is simply then just to add those together to give my total, uh, enterprise value.

And I have a enterprise value for Pepsi of around $236 billion.

Now, that's my enterprise value, of course, being a public company, I want to know what the implied share price is for PepsiCo.

Um, but again, Felix comes the rescue because, uh, if we go back to the PepsiCo valuation tab, you'll see we've got an EV bridge, uh, calculation here, uh, all taken from the latest filings of Pepsi.

Um, so I can just simply copy this data, um, and pop this into my spreadsheet and then use those data points to, uh, calculate an implied equity value and therefore an implied share price.

So let me build my equity calculations.

So we start off with an EV of 236 billion, uh, but then going to make our EV bridge adjustments.

Now, if I'm going from EV to equity, I'm going to add on any cash and other financial assets, And then I'm going to subtract any NCI any debt.

And we've also got a pension liability there, okay? And that gives me my implied equity value, and that gives me an implied equity value there for PepsiCo, about 190, uh, $3.7 billion.

Uh, I've got the diluted share count above, above as well.

So I can use that to calculate an implied share price.

So if I take that figure, uh, of the equity value divided by the diluted shares outstanding, that gives me an implied share price of 140.9 for PepsiCo.

Now, that is not a million miles away from what they're trading at. So at the moment, they're trading around 144.

So there's either some kind of conglomerate premium and to verify that we'd go back and look historically to see has PepsiCo historically traded at a premium for some of the parts? Um, or do we need to think about fine tuning some of those multiples? Um, remember, you know, some of the, um, analysis was quite light, particularly on the European and, uh, rest of the, the world's multiples.

Okay? So that is our process that we follow for some of the parts valuation.

Now, there is one further modification to some of the parts, um, which is particularly useful if you are, uh, buying companies with finance arms.

Now, we don't have time for a full example on this, but I will just talk you through the slide.

Um, now for companies with finance operations, we're thinking about maybe industrial companies like autos or aerospace businesses where they finance some of their customers.

So it's very common for very big tickets.

Um, capital goods producers to say to their customers, we will provide maybe a five or 10 year loan financing, uh, for this very large big ticket purchase of equipment.

And effectively what that means is you've got two distinct operations. You've got an industrial operation and effectively a lending arm, which acts a bit like a bank, okay? And, uh, usually companies in their segment disclosure will provide enough information that they, uh, completely segment the income statement of the balance sheets.

Uh, so you can see the different parts.

Um, and in fact, for some companies, uh, for some industrial equipment companies like for example, uh, agricultural machinery and aerospace, they will actually, um, you know, provide almost a, you know, a separate full, full income statements and balance sheets in their footnotes.

Um, so here's a very simplified example of what we see here is a company, uh, which has produced a separate balance sheet for its industrial operations and its lending arm.

Okay? Um, now the way we can use some of the parts here is to say, well, let's start off with valuing the industrial operations in the way that we normally would, which is to calculate, um, an EV using, let's say a multiple, that it could be a DCF approach, uh, on the industrial operations earnings and cash flows.

Okay? So calculate the EV of the corporate operations once you've done that, because we've also got a separate balance sheet for those industrial operations, we can actually go over the EV bridge in the usual way.

So we subtract the value of our net debt to get to the value equity of those industrial operations.

Now, for the financial services business, we can't usually use the same approach as we would for a corporate op uh, operation. For financial services, we're usually focusing just on equity.

So either using, uh, A DCF to equity or like what we refer to as a residual income model or a dividend discount model for the cash flows, or even just a PE multiple.

So we can calculate the equity value of the finance business using the earnings and cash flows just from that financing arm.

And that gives you the equity value of the financing business.

We can add that to the equity value of our corporate operations to give the combined equity value of the business.

So just a little tweak there, uh, in terms of how we approach it, uh, when we're using, uh, an industrial company with financing operations and within Felix, within our playlists, we have got a workday example of how to do that.

And I think in Felix, a video uses Deer and Co, which is a company which produces agricultural machinery. So if you're interested in that, please do after this webinar go off and have a look at that example.

So that brings us the end of some of the parts valuation.

Um, I know it, uh, sounds probably more complicated than it is.

Um, I think reality is the challenge with some of the parts is less in terms of methodology and more in finding appropriate information, uh, that you can use.

Um, but hopefully you can see the benefit of this approach is that first of all, you're going to come up with a much more robust valuation and trying to guess some kind of weighted average multiple, but also you're really able to unlock more peer companies because in reality, there is no company like Pepsi.

You know, there's very few companies which straddle both food and beverages.

Um, so by doing this process of, um, se separating it out to its different business units, you unlock a much broader range of peers, um, because there are many more standalone beverages and snacks businesses that we can use in our analysis.

So that brings us to the end of, uh, our advanced DCF valuation session.

Uh, I'm again just going to pause and if you have any questions about some of the parts valuation or any questions about any of the topics that we've been through today, uh, please do take the time.

Now we've got just a few minutes before I need to close the webinar, so please do chip in with any questions that you have.

I'm not seeing any questions at all coming in, nothing in the chat, nothing in the q and a box.

Um, please feel free to leave if you've, uh, uh, if you've understood and, uh, you're happy with all the content that we've covered. Thanks for joining. Have a lovely weekend and, um, I will, uh, hopefully see you at ano another webinar soon.

Oh, I've just had a question come in at the last minute.

Uh, there was another document.

Can you use that for extra question practice? Yes, you can do, um, I think that, uh, is, uh, going to, uh, give you an example of a variable valuation date for a real company that is Keurig Dr. Pepper. So yeah, feel free to use that as extra question, practice.

The link should provide you with a solution file as well.

I think we'll, uh, wrap up today's webinar.

Thanks very much for joining, and have a lovely weekend.