In today’s class, we looked at how best to adapt valuation models to value entire markets, as well as companies on the dark side of valuation. Specifically, we examined how best to value young companies with limited information. If you are interested, try this paper on valuing young companies: https://papers.ssrn.com/
Bad Corporate Governance: Valuing Markets And Young Companies
Q4 hedge fund letters, conference, scoops etc
Transcript
Couple of suggestions. Less is more. I don't know hundreds of line items. It's I know what investment banks do. But it's so easy to lose sight of the forest for the trees. It's so easy to have you build a lot of detail because you like building the Dell have a separate sheet which is just devaluation. We compress it down to six to seven line items. Because remember talked about stories it's very difficult to see a story when you're 500 line items because you're so caught up in CNN how it's growing over time you missing it. So. No I said if you have a spreadsheet and that's where I got meannesses when I've got a spreadsheet and garden line 331 site I give up and go back and see if you can compress what you've done on it and you don't have to start from scratch it just means looking at your own numbers to see if they make sense in a big picture perspective. So today we're going to do a lot of valuation. So I'm going to give you a preview by looking at some of the questions we're going to address. So let's say you're valuing a company what corporate governance is poor. I'm going to leave it at that. And you when you do determine or why it matters. Let's say the firm is badly managed and you come up with the DCF value of 100 million for the full should you attach a discount to that one.
Because there's bad corporate governance. You're saying what is bad corporate governance. What didn't lift it when they did the IPO what did they do they took lots of shares. Right. So in a sense we already know corporate governance is pretty much dead in the water and let There's nothing you're going to be able to do. It's by design. So when you do a DCF valuation you didn't discount the value for bad corporate governance. You said no why not.
And that's really the question was it and when people talk about DCF they act like it's some number that came out of nowhere. It's your DC have you made assumptions. And what is bad corporate governance mean that you can't change the management of a company right. So if you have a badly managed company you are kind of stuck with it in your DCF here's what I'm looking at. Did you build the bad management into cash flows as bad projects terrible debt ratio. And if you have already guess what the 100 million is already discounted value you and it reflects the fact that you can change.
But here's the reality when you do have sometimes you forget what you do and you act like you run the firm. So what do you do you fix the problems on the spreadsheet. You make low margins to high margins bad projects and good projects you move the company towards the target debt ratio. Then I have no idea what it is that it could be a DCF would some then you might have to attach a discount. How much of a discount you'd have to actually go back and redo the valuation with those bad and puts it. So we're going to talk about value emerging market companies and I'm going to go through this process of dealing with bad corporate governance. But if you do your DCF in a way that's transparent where you can see what you're doing. You don't have to discount the value that you get. It should be already embedded in them. Here's the second question you've done a DCA evaluation of a pharmaceutical company and you've done it using the traditional definitions of earnings would put the accountants have put in there. But we talked about how those numbers don't make sense. You remember the clients who capitalized are indeed redo everything and you re estimate the value of a company will capitalizing R and D. What effect will it have. I will give you the choices. The first days will have no effect on that because you move things around you still have the same free cash flow. I think that's the answer. If that were the answer. We've just wasted our time right. There's a reason we capitalize our dates because we think it will change that. So here's my question. We're capitalizing on India. Your company increased value decreased value. Or is it possible that value could be unchanged. How many tiggle increase value.
Think of the FX rate if you capitalize are for the most part your earnings went up for many of your companies to recapitalize or did you notice a margin jumped. That's good news the bad news is it now becomes part of the invested capital. So your reinvestment now is a much bigger number. See what already the net consequence is going to be. It depends on which effect dominates when I capitalize R and for merch I knocked on the value ten dollars per share when I capitalized the value for Amgen I increase the value ten dollars per share. The board pharmacy companies what's different about the. Merck waste money. NORAD for the last 10 years it spent 100 billion plus an art is nothing to show for it. So when I capitalize on India I'm holding them up this ended up hey are you taking good. And the answer is No. So I punish them. That's why we capitalize our DS to treat it as an investment. Is this a company that does good and b bad are a neutral party. The effects can cut depending on your company.
