In my thesis I examined the applicability of traditional valuation methods to value high growth companies. Consequently I presented and discussed possible modifications to the traditional methods, whereas I demonstratively applied some of the presented concepts in the case study. Considering relative valuation, traditional multiples based on historical financial data are not very useful for valuing such companies, as historical earnings are either negative or have low informational value. In my opinion, the presented concept of forward-looking (earnings) multiples is clearly superior to the traditional approaches using historical financials and also to the proposed modifications, which mostly have to be applied using historical data. The concept of knowledge-related multiples is interesting, although it uses historical financials; it may be useful and deliver accurate results in certain cases, but not especially when valuing high growth companies. Multiples based on non-financial data may only work well if a truly comparable company could be found. However, a multiples analysis should generally not be used for standalone company valuations, but rather to complement a DCF valuation, which is regarded as the more accurate method.
In the second part I examined the DCF valuation and found that the general framework works even for high growth firms; only the estimation of separate inputs requires more effort and modified estimation approaches compared to stable growth companies. The scenario-based DCF approach is considered as the appropriate method to account for high uncertainty in company valuation, as it allows examining the effect of changes in fundamental value drivers, without having to use quite intransparent mathematical models. I also presented some in depth estimation issues for three main steps of a DCF valuation, which proved beneficial for doing the case study.
The case study should demonstrate the specific problems relating to the valuation of high growth companies. By trying to value “bwin”, an Austrian online gaming firm, the case study reveals the deficiencies of traditional multiples and shows how the scenario-based DCF approach can be applied. Although scenario outcomes deliver an even broader value range than the multiples analysis, they allow accounting for the specific circumstances and reveal the possible effect of changes in the key value drivers for the company. The scenario-based DCF approach thus delivers the most valuable results in my opinion.
Table of Contents
- Introduction
- Relative Valuation
- Traditional Approach
- Common Multiples and their Drawbacks
- The Accuracy of Multiples and Best Practices
- Modifications and Extensions
- Multiples Based on Non-financial Data
- Growth-adjusted Multiples
- Knowledge-related Multiples
- Traditional Approach
- DCF Valuation
- General Framework
- Modifications for High Growth Companies
- Scenario-based DCF
- Estimating Cash Flows
- Estimating Growth
- Estimating the Discount Rate
- Other Methods
- Real Options
- Venture Capital Method
- Case Study: Valuing bwin
- The Problem
- Market Review and Key Value Drivers
- Relative Valuation
- DCF Valuation
Objectives and Key Themes
This paper aims to explore traditional valuation methods and their limitations when applied to high-growth companies, particularly those exhibiting rapid expansion and substantial future growth potential. It then investigates modifications and extensions of these methods to better accommodate the unique characteristics of such firms. The paper culminates in a case study applying these amended techniques.
- Limitations of traditional valuation methods for high-growth companies.
- Modifications and extensions of valuation methods for high-growth firms.
- The role of future growth in valuing high-growth companies.
- Application of valuation techniques to companies with negative earnings.
- Case study analysis of a high-growth company in the online gaming industry.
Chapter Summaries
Introduction: This chapter sets the stage by revisiting the dot-com bubble and its aftermath, highlighting the need for adapted valuation techniques for high-growth companies that often present challenges to traditional methods due to their lack of track record, rapid expansion, and substantial future growth potential. The introduction uses examples like Google and YouTube to illustrate the need for robust valuation methods that can accurately reflect the value of such firms, even in the absence of significant current profitability.
Relative Valuation: This chapter delves into relative valuation techniques, examining both traditional approaches and their limitations in assessing high-growth companies. It critiques the use of common multiples, highlighting their inherent drawbacks and exploring best practices to enhance accuracy. The chapter proceeds to discuss modifications and extensions, including multiples based on non-financial data, growth-adjusted multiples, and knowledge-related multiples, offering alternative frameworks to better capture the value proposition of rapidly expanding businesses.
DCF Valuation: This section focuses on Discounted Cash Flow (DCF) valuation, a widely-used method, and its adaptation for high-growth companies. The chapter establishes the general framework of DCF analysis and then explores modifications essential for evaluating businesses with high growth trajectories. Key modifications discussed include scenario-based DCF, the crucial task of estimating future cash flows, projecting growth rates, and determining the appropriate discount rate – all elements posing unique challenges in the context of high-growth companies.
Other Methods: This chapter briefly explores alternative valuation approaches beyond relative valuation and DCF, such as real options and the venture capital method. These methods offer different perspectives and tools for assessing the value of high-growth firms, particularly those operating in uncertain environments with significant growth potential.
Case Study: Valuing bwin: This chapter presents a practical application of the valuation methods discussed in previous chapters. It outlines the process of valuing a specific company, bwin, in the online gaming industry, demonstrating how the theoretical frameworks can be used to arrive at a valuation in a real-world scenario. The case study likely includes analyses using both relative valuation and DCF methods, illustrating the practical application of the techniques and highlighting their strengths and limitations in a concrete case.
Keywords
High-growth companies, valuation methods, relative valuation, discounted cash flow (DCF), multiples, growth-adjusted multiples, knowledge-related multiples, real options, venture capital method, case study, online gaming, financial modeling, future growth, intangible assets.
Frequently Asked Questions: A Comprehensive Guide to Valuing High-Growth Companies
What topics are covered in this document?
This document provides a comprehensive preview of a paper focusing on valuation methods for high-growth companies. It includes a table of contents, objectives and key themes, chapter summaries, and keywords. The core content revolves around exploring traditional valuation methods (and their limitations), modifications for high-growth firms, and a case study applying these techniques to a real-world company (bwin).
What are the main valuation methods discussed?
The paper primarily focuses on Relative Valuation (including traditional approaches, modifications like growth-adjusted and knowledge-related multiples, and limitations of common multiples) and Discounted Cash Flow (DCF) Valuation (covering the general framework and modifications for high-growth companies, including scenario-based DCF, estimating cash flows, growth, and discount rates). Additionally, it briefly touches upon other methods such as Real Options and the Venture Capital method.
What are the limitations of traditional valuation methods for high-growth companies?
Traditional valuation methods often struggle with high-growth companies due to their lack of historical financial data, rapid expansion, and significant future growth potential. These methods may undervalue the true potential of such firms, particularly those with negative current earnings.
How are traditional methods modified for high-growth companies?
Modifications include using multiples based on non-financial data, incorporating growth adjustments into traditional multiples, employing knowledge-related multiples, and adapting the DCF framework to account for the unique challenges of forecasting cash flows, growth rates, and discount rates for high-growth scenarios.
What role does future growth play in valuing high-growth companies?
Future growth is paramount in valuing high-growth companies. Accurate forecasting of future cash flows and growth rates is crucial for methods like DCF, while growth adjustments are necessary for relative valuation techniques to reflect the firm's potential.
How are companies with negative earnings valued?
Valuing companies with negative earnings requires careful consideration and adaptation of traditional methods. Relative valuation might rely on industry comparables or non-financial metrics, while DCF analysis focuses on projecting future positive cash flows to justify the current valuation.
What is the purpose of the case study on bwin?
The bwin case study demonstrates the practical application of the discussed valuation methods in a real-world scenario within the online gaming industry. It showcases how both relative valuation and DCF techniques can be utilized to arrive at a company valuation and highlights the strengths and limitations of each approach.
What are the key themes explored in the paper?
Key themes include the limitations of traditional valuation methods for high-growth companies, modifications and extensions of valuation methods suitable for these firms, the critical role of future growth in valuation, applications for companies with negative earnings, and a detailed case study analysis within the online gaming industry.
What are the key words associated with this document?
Key words include: High-growth companies, valuation methods, relative valuation, discounted cash flow (DCF), multiples, growth-adjusted multiples, knowledge-related multiples, real options, venture capital method, case study, online gaming, financial modeling, future growth, intangible assets.
- Quote paper
- Mag. Thomas Prielinger (Author), 2007, Valuation of high growth companies, Munich, GRIN Verlag, https://www.grin.com/document/93094
