Best way to value a small conglomerate?
October 23, 2021
by an member from University of Pennsylvania - The Wharton School in Philadelphia, PA, USA
Currently working on a school project where I am assigned to arrive at a sensible valuation for a healthcare conglomerate (medtech, services, and diagnostics). My intuition led me to develop a weighted DCF for the conglomerate. I am deriving separate WACCs for each of the subdivisions, but I am unsure as to whether I should average them by weighing them and then develop a singular DCF or instead multiple DCFs.
from The University of Chicago in Chicago, IL, USA
2) Using weighted average WACC is wrong. You have no basis to compute different weights to apply to each WACC.
3) I presume this is a project for a finance class where you are learning how to use DCF, not what multiple someone paid for a similar business..
4) I have written many articles on following comments; Current academic world and appraiser community have ignored it b/c of legacy preservation. I hope I can complete my book Corporate Finance 2.0 soon.
A. Using WACC as a discount rate is theoretically wrong.. Use of WACC assumes constant capital structure, which in turns means a) if g=0, debt principal will never be repaid and shareholder will be paid dividends before debt principal, or b) if g>0, then debt will continue to increase, and such incremental debt will be paid as dividends. In real life debt principal is repaid before dividends. As a result WACC overvalues a business; often 50% overvaluation.
B. Gordon Growth Model is wrong b/c it assume no debt repayment. Btw, Prof. Gordon never developed GGM. No corporate finance book has shown its derivation! More details on SSRN Capitalization 2.0 https://papers.ssrn.com/sol3/papers.cfm?abstract_id=###-###-####
C: For my articles go yo www.AltBV.com.
D. Alternative to WACC is to separate the cash flows to debt and equity and then discount them individually at their respective cost of capital. This is not easy. See www.BVXpress.com.
from University of Notre Dame in Dublin, OH, USA
In most cases, the best way to reach a valuation is to use multiple valuation methods to triangulate a value. In this case, it would likley be a (i) DCF of the full conglomerate and (ii) a sum-of-the-parts (SOTP) analysis of the individual subsidiaries.
For (i), I would look at the unlevered free cash flows of the conglomerate, including the drag from corporate expenses. Then, I would use a WACC based on the Company's existence as a conglomerate. In theory, one of the benefits of a conglomerate is a lower cost of capital.
For (ii), I would come up with a SOTP using DCFs and multiples to value each of the subsidiaries individually, and then add them all up (as if they had been spun off).