NARRATIVE AND NUMBERS: VALUATION AS A...
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NARRATIVEANDNUMBERS:VALUATIONASABRIDGE
Tellmeastory..
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Valuationasabridge
The Numbers People
Favored Tools- Accounting statements
- Excel spreadsheets- Statistical Measures
- Pricing Data
Illusions/Delusions1. Precision: Data is precise
2. Objectivity: Data has no bias3. Control: Data can control reality
The Narrative People
Favored Tools- Anecdotes
- Experience (own or others)- Behavioral evidence
Illusions/Delusions1. Creativity cannot be quantified
2. If the story is good, the investment will be.
3. Experience is the best teacher
A Good Valuation
Number Crunchers Story Tellers
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Step1:Surveythelandscape
¨ Every valuation starts with a narrative, a story thatyou see unfolding for your company in the future.
¨ In developing this narrative, you will be makingassessments of¤ Your company (its products, its management and itshistory.
¤ The market or markets that you see it growing in.¤ The competition it faces and will face.¤ The macro environment in which it operates.
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Step2:Createanarrativeforthefuture
¨ Everyvaluationstartswithanarrative,astorythatyouseeunfoldingforyourcompanyinthefuture.
¨ Indevelopingthisnarrative,youwillbemakingassessmentsofyourcompany(itsproducts,itsmanagement),themarketormarketsthatyouseeitgrowingin,thecompetitionitfacesandwillfaceandthemacroenvironmentinwhichitoperates.¤ Rule1:Keepitsimple.¤ Rule2:Keepitfocused.¤ Rule3:Staygroundedinreality.
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TheUberNarrative
InJune2014,myinitialnarrativeforUber wasthatitwouldbe1. Anurbancarservicebusiness:IsawUber primarilyasa
forceinurbanareasandonlyinthecarservicebusiness.2. Whichwouldexpandthebusinessmoderately(about40%
overtenyears)bybringinginnewusers.3. Withlocalnetworkingbenefits:IfUber becomeslarge
enoughinanycity,itwillquicklybecomelarger,butthatwillbeoflittlehelpwhenitentersanewcity.
4. Maintainitsrevenuesharing(20%)systemduetostrongcompetitiveadvantages (frombeingafirstmover).
5. Anditsexistinglow-capitalbusinessmodel,withdriversascontractorsandverylittleinvestmentininfrastructure.
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Step3:Checkthenarrativeagainsthistory,economicfirstprinciples&commonsense
Aswath Damodaran
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TheImpossible,TheImplausibleandtheImprobable
Aswath Damodaran
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Uber:Possible,PlausibleandProbable
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The Story The Checks (?)
+ Money
+
The Impossible: The Runaway Story
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The Implausible: The Big Market Delusion
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The Improbable: Willy Wonkitis
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Step4:Connectyournarrativetokeydriversofvalue
Total Market
X
Market Share
=
Revenues (Sales)
-
Operating Expenses
=
Operating Income
-
Taxes
=
After-tax Operating Income
-
Uber is an urban car service company, competing against taxis & limos in urban areas,
but it may expand demand for car service.The global taxi/limo business is $100 billion in
2013, growing at 6% a year.
Reinvestment
=
After-tax Cash Flow
Uber will have competitive advantages against traditional car companies & against newcomers in this business, but no global networking benefits.
Target market share is 10%
Uber will maintain its current model of keeping 20% of car service payments, even in the face of
competition, because of its first mover advantages. It will maintain its current low-infrastructure cost model,
allowing it to earn high margins.Target pre-tax operating margin is 40%.
Uber has a low capital intensity model, since it does not own cars or other infrastructure,
allowing it to maintain a high sales to capital ratio for the sector (5.00)
The company is young and still trying to establish a business model, leading to a high cost of
capital (12%) up front. As it grows, it will become safer and its cost of capital will drop to 8%.
Adjusted for operating risk with a discount rate and
for failure with a probability of failure.
VALUE OF OPERATING
ASSETS
Adjust for time value & risk
The Uber narrative (June 2014)
Cash Uber has cash & capital, but there is a chance of failure.10% probability of failure.
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Step4:Valuethecompany(Uber)
Aswath Damodaran
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Step5:Keepthefeedbackloop
1. Notjustcarservicecompany.:Uber isacarcompany,notjustacarservicecompany,andtheremaybeadaywhenconsumerswillsubscribetoaUber service,ratherthanowntheirowncars.Itcouldalsoexpandintologistics,i.e.,movingandtransportationbusinesses.
2. Notjusturban:Uber cancreatenewdemandsforcarserviceinpartsofthecountrywheretaxisarenotused(suburbia,smalltowns).
3. Globalnetworkingbenefits:Bylinkingwithtechnologyandcreditcardcompanies,Uber canhaveglobalnetworkingbenefits.
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ValuingBillGurley’sUbernarrative
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Differentnarratives,DifferentNumbers
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Step6:BereadytomodifynarrativeaseventsunfoldNarrativeBreak/End NarrativeShift NarrativeChange
(Expansion orContraction)Events,external(legal,politicaloreconomic)orinternal(management,competitive,default), thatcancausethenarrativetobreakorend.
Improvement ordeteriorationininitialbusinessmodel,changingmarketsize,marketshareand/orprofitability.
Unexpectedentry/successinanewmarketorunexpectedexit/failureinanexistingmarket.
Your valuationestimates(cashflows,risk,growth&value)arenolongeroperative
Yourvaluation estimateswillhavetobemodifiedtoreflectthenewdataaboutthecompany.
Valuation estimateshavetoberedonewithnewoverallmarketpotentialandcharacteristics.
Estimate aprobabilitythatitwilloccur&consequences
MonteCarlosimulationsorscenarioanalysis
RealOptions
Aswath Damodaran
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