Valuation and Private Equity - Presentation

Gonçalo Faria

QMUL MSc Finance Programmes

November, 2015

I - GF Background;

II - Overview on the theme of Valuation;

III - Overview on the theme of Private Equity;

IV - Module description.

Education:

2010: Faculty of Economics of the University of Porto

Ph.D in Financial Economics: Essays on Ambiguity about Stochastic Variance - Awarded with Distinction.

2004: CFA Institute, USA

CFA Charterholder. Currently Member of the CFA Institute.

2004: Amsterdam Institute of Finance, Netherlands

Advanced Valuation Course.

2000: Faculty of Economics of the University of Porto

Academic Experience:

Since 2015: Católica Porto Business School, Portugal

Assistant Professor of Finance

Since 2013: Queen Mary University of London, School of Economics & Finance, UK

Visiting Professor (MSc Finance Programmes): Valuation (2013), Asset Management (2014, 2015), Valuation and Private Equity (2014, 2015)

Since 2012: Imperial College Business School, UK

Visiting Researcher in the Finance Department.

2012 - 2015: Porto Business School - University of Porto, Portugal

Invited Professor: Financial Risk Management (MBA and Executive Courses); Fixed Income Instruments (Post-graduate program in Financial Analysis); Capital Markets (Corporate Finance Executive Program); Equity and Debt Instruments (Corporate Finance Executive Program)

Private Sector Experience:

Since 2012: Consultant for nancial sector institutions in Luxembourg, Portugal and UK (Asset Management, Family Oces and Private Equity)

2010 - 2011: Hedge fund manager

Founder and Partner of Luxembourg based Douro Equity Fund

2005 - 2007: Portfolio manager

Proprietary trading desk in BPI

2001 - 2005: Financial Analyst

Equity Research Team in BPI

2000-2001: Auditor

Overview on the theme of Valuation.

What is Value?

Valuation Exercise: some key ideas. Valuation: key topic in Finance?

What is Value?

A lot of executives apparently believe that if they can gure out a

way to boost reported earnings, their stock prices will go up even if

the higher earnings do not represent any underlying economic

change. In other words, the executives think they are smart and the

market is dumb....The market is smart. Apparently, the dumb one

is the corporate executive caught up in the earnings-per-share

mystique. (WSJ, Editorial October 1

_{, 1974)}

What is Value?

Financial Value vs. Accounting Value

cash ow vs. accounting ratios (example: Earnings Per Share). E.g: value destructive but accounting constructive M&A deals.

Capital opportunity cost>return on invested/employed

capital: Under-remunerated Cash should go back to shareholders. E.g.: Spanish company Zardoya Otis.

Sustainable Value vs. One-o events

Medium long term perspective: distinction between

fundamentals and circumstantial drivers. Example: Sale of non-core assets, as real estate, by an Industrial company.

⇒

1

Key idea

: Valuation Analysis is always focused on cash

Valuation Exercise

Valuing an asset / company - from a set of arbitrary

assumptions, using appropriate methods, project future

cash ows and value embedded investment options.

⇒

2

Key idea

: the valuation does not exist. Whoever

makes the valuation exercise is building up her/his investment

story.

Critical Inputs - Value drivers: Company specic and/or

from Industry organization and trends; Be critical about:

sustainability, strategy.

⇒

3

Key idea

: intrinsic connection between Valuation and

Valuation Exercise

Critical Inputs - Working Tools:

diagnosis and monitoring:

accounting: nancial statements, accounting ratios; Market surveys;

Direct contact with company management, physical visits to the companies;

contacts with remaining stakeholders to cross-check info...

valuation: appropriated method or methods: DCF, market multiples, Real Options, etc..

⇒

4

Key idea

: in order to make an appropriate valuation

Valuation Exercise

Brief Note about Methods: DCF vs Real Options

Starting from standard DCF approach, real options contribute can strongly enhance the quality of valuation exercise. When?

There exists high uncertainty about future CF . Sometimes it is binomial;

There exists exibility in the execution of the investment projects;

There are irreversible investment costs;

⇒

5

Key idea

: in most of the cases, assets/projects under

valuation have an embedded option-nature dimension: standard

valuation methods can and should be completed with a real

options approach.

Valuation: key topic in Finance?

Yes! Very dierent elds where mastering valuation concepts

is a critical dierentiating factor.

Some examples:

Corporate Finance:

M&A,

Equity and Debt Primary Markets, Restructuring,

....

Asset Management;

Overview on the theme of Private Equity (PE).

PE: The Universe of Investment; PE: The Process of Investment;

PE: The Universe of Investment

Private equity is a nancing solution designed for a specic

need;

Private Equity oers a nancing solution through equity or

quasi-equity for three main purposes:

creation of companies: Venture Capital; development of companies: Growth Capital;

restructuring of companies: Leverage Buy-Out (LBO);

plus

special situations: including, Turn-around Capital and Distressed Debt among others.

PE: The Process of Investment

Whatever the type of PE operation to be developed, the

process of investment follows a common path:

An example of Valuation relevancy in Private Equity.

Consolidation Fund to buy Distress Companies;

In the Roadmap to obtain a successful investment case it

is critical:

understand the potential target company: auditing, due diligence and valuation;

understand stance of the current shareholders; understand stance of the current debt holders; bring all parts involved towards a common agenda....

An example of Valuation relevancy in Private Equity.

As in this Fund the target are distressed companies, normally

we obtain:

very low or even negative equity value⇒current

shareholders will have to make substantial write-o of their stakes...

debt restructuring:

Haircut? Yes or No, and if yes with what dimension? renegotiation of price (interest rate) and the reimbursements calendar - how to adjust?

An example of Valuation relevancy in Private Equity.

In order to bring current shareholders to the negotiation

table you need strong soft skills...

To address debt topics a deep valuation exercise has to

be made:

Start from the target company as it is, in a stand-alone basis;

Eventually evaluate the company as if it was already integrated in the PE fund (beneting from potential synergies with remaining portfolio and from the new active

management);

Build a base case scenario and then, considering (i) company value drivers and (ii) mains sources of concerns, this base case scenario is stressed.

An example of Valuation relevancy in Private Equity.

Note that Valuation exercise plays a critical role in this

process:

denes if equity value is positive or negative; from the estimated cash ow statement and related

assumptions, the terms of debt restructuring are dened; this denes the type of shares of the Fund to be issued and to be acquired by whom.

We'll see in Class a concrete example from the beginning

until the end: motivation, valuation and deal making.

Explore, rigorously, the theoretical basis and practical

applications of frontier valuation concepts and techniques.

Explore, rigorously, the private equity cycle: (i) fund

raising and structure, (ii) investing and (iii) exit.

Module strongly emphasizes practical applications, with

case studies, empirical evidence and examples.

Some of them come directly from my concrete experience in equity markets, asset management and private equity activities.

Students are expected to acquire autonomy and critical

sense about the use of studied valuation techniques and

clear understanding of conceptual tools used in private

equity deals.

Module code: ECOM077

Credit value: 15

Module convenor: Gonçalo Faria (

g.faria@qmul.ac.uk

)

Oce location and hours: individually scheduled

Formal assessment:

20% mid-term test 1 hour (week 29th _{February 4}th

March)

80% 2-hour nal exam (during scheduled exam period: 3rd

Lectures (2 hours, weekly).

1 introductory lecture, 9 full lectures

(plus 1 reading week and 1 revision lecture).

Support classes (1 hour, weekly).

Support classes will be of 1 hour on a weekly basis, covering problem-solving and applications from the Lecture materials slots to be notied at class or via QM+ page

Schedule timetable:

Lectures: Wednesday 9:00 - 11:00; (Bancroft Building: Mason LT)

Support classes: Wednesday 12:00 - 13:00. (Bancroft Building: Mason LT)

The semester runs from 11

_{January to 1}

_{April 2016.}

Three blocks

1

Course Introduction: Lecture 1;

2

Valuation Foundations (Lectures 2 - 5);

3

Private Equity: Complete Investment Cycle (Lectures 6

Block 2 (Valuation Foundations) structure:

(i) Valuation - Preliminary Ideas;

(ii) DCF Valuation Approach:

Examples and exercises will be given to illustrate topics; Main focus will be the valuation exercise of a listed/target company, making use of available information. A simple DCF valuation model will be built, step-by-step, in the class. A M&A case will be illustrated. A hands-on approach will be adopted.

(iii) Real Options Valuation Approach:

real-world examples and exercises will be given to illustrate topics.

Block 3 (Private Equity: Complete Investment Cycle)

structure:

(i) What is Private Equity?

(ii) Fund raising and structure;

(iii) Investing;

(iv) Exiting.

Throughout this block:

1 a real-world example of a Private Equity Fund set-up process

will be given;

2 a specic investment deal process of that PE will be presented

as illustration - motivation, value creation and deal making process;

3 case studies will be given regarding other real-world

examples, especially for exit strategies.

Teaching Materials

In-class: session slides, examples and case-studies.

Reference books (Valuation):

[main book] Hillier, D., Ross, S., Westereld, R., Jae, J., and B. Jordan, (2013), Corporate Finance, McGraw-Hill. (2nd

European Edition)

[only for the real options topic] Dixit, A. and R. Pindyck, (1994), Investment under uncertainty, Princeton University Press.

Reference books (Private Equity):

Demaria, Cyril, Introduction to Private Equity: Venture, Growth, LBO and Turn-Around Capital (The Wiley Finance Series) (New York, NY, 2013) 2nd _edition.

Complementary (in Syllabus):

only for students interested in

exploring more deeply the topics under study.