Guideline Public Company Method
Based on possible differences between the companies, what is a disadvantage of using the guideline public company method?
No.
Even with a large group of similar guideline public companies, there are still some disadvantages to using this method.
Yes.
Even with a large group of similar publicly traded companies, there are likely to be differences in risk and growth prospects. These differences impact prices, and it's difficult to quantify the impact and adjust accordingly. This is the main disadvantage of the guideline public company method.
How might you reflect the benefits of owning the control block of ABC shares in the guideline public company method?
No.
Control premiums aren't applied to the subject company earnings.
No.
The guideline publicly traded company method is based on market prices that are minority interests.
Why do you think the control premium for the Beta transaction is much higher than the control premiums from the transactions from financial buyers?
Right.
A strategic transaction is between two companies that can achieve synergies as a result of completing the transaction. As a result, buyers often pay higher control premiums to reflect the benefits of the expected synergies.
The type of transaction influences the control premium. Another complexity of the guideline public company method is analyzing the control premium data for applicability.
No.
Financial buyers don't pay higher premiums for financial benefits.
No.
If a company is in financial distress, it will often be acquired at a very low price rather than a high premium.
Given these facts, how do you think you should incorporate a control premium in the guideline public company method, if at all?
Right.
The pricing multiples from the guideline public companies likely reflect some element of control due to the acquisition offers and the rise in stock prices since the acquisition offer announcements. So another adjustment to value for control is not necessary.
Pricing multiples for an industry change from year to year based on existing market conditions. If the pricing multiples for an industry rose from an average of 8.0_x_ earnings in one year to over 14.0_x_ earnings the next year, how do you think the multiples should be used in the guideline public company method?
Yes.
Data from pricing multiples and control premiums must be carefully evaluated for reasonableness at all times.
Yet another consideration is leverage. If your guideline company (with a 30% tax rate, assume) has a lot of leverage, like maybe 40% debt and 60% equity, you'll want to adjust the beta used (suppose it's 1.5), finding an unlevered beta:
$$\displaystyle \beta_{\text{unlevered}} = \frac{\beta_\text{levered}}{1 + (1 - t) \times \frac{\text{Debt}}{\text{Equity}}} = \frac{1.5}{1 + (1 - 0.3) \times \frac{40}{60}} \approx 1.023 $$
Then you can lever this beta back to match the private company, that might be subject to a 25% tax rate and have just 20% debt in the capital structure:
$$\displaystyle \beta^*_\text{levered} = \beta_{\text{unlevered}} \left[ 1 + (1 - t^*) \times \frac{\text{Debt}}{\text{Equity}} \right] $$
$$\displaystyle \beta^*_\text{levered} = 1.023 \left[ 1 + (1 - 0.25) \times \frac{20}{80} \right] \approx 1.215$$
No.
Control pricing multiples should be evaluated for reasonableness.
No.
Historical market pricing data is relevant, but so is the current pricing multiple data.
In summary:
[[summary]]
No.
Some of the companies that have announced transaction offers may already have control benefits reflected in the price.
Right.
A control premium in an amount or percentage can be added to the pricing multiple from the guideline public company method to reflect the benefits of control. A complicating factor of the guideline public company method is that adjustments must be made for the benefit of control if the subject company is being valued on an enterprise basis.
No.
In fact, public companies have significant disclosure of financial and descriptive information.
No.
The multiples from the guideline public companies that have announced offers likely reflect some benefit of control due to the announced transaction offers.
There are many species of butterflies that can be grouped based on similarities, such as size and color patterns. The groups might be large or small and have strong or weak similarities.
The same is true of valuing companies using the guideline public company method. The analysis is based on selecting a group of similar public companies for the analysis. The selected guideline public companies may have many strong similarities to—but also some key differences from—the subject company of the valuation.
Consider a valuation of a private company, ABC Toy Inc., which includes the guideline public company method. The selected group of guideline companies are similar to ABC in many ways, including industry, size, and current operating status.
Owning a control block confers additional rights to the shareholder, including the ability to purchase or dispose of assets and the ability to elect the board of directors. The stock prices for the guideline public companies reflect the market price of a minority interest.
A list of eight recent control transactions with control premium data is available for the car industry, with most from financial buyers (equity funds or hedge funds). Assume one transaction occurred when Alpha Automotive bought Beta Cars and streamlined manufacturing operations and condensed dealer locations. The transaction for Beta's purchase has a significantly higher control premium than the other seven transactions.
Sometimes industries experience a wave of consolidations. As a result, the guideline public companies used in a valuation may include several companies that are currently in negotiations to be acquired. Once an acquisition is announced, the stock prices rise to the transaction price, although the transactions have not closed yet.
There are no disadvantages
It's difficult to adjust the pricing multiples to account for risk and growth differences
It's difficult to find enough financial and descriptive information on the guideline public companies
Apply a control premium to the ABC earnings
Make no adjustment at all, as the benefit of control can't be quantified
Add a control premium to the multiples from the guideline public companies
Alpha increased the purchase price to reflect the strategic benefits of the synergies
Alpha partnered with a financial buyer who was willing to pay a higher premium for the financial benefits
Beta was in severe financial distress, so Alpha was willing to pay a premium to reduce the financial distress burden on the Beta shareholders
No longer add a control premium
Continue to add a control premium to the multiples of all guideline public companies
Add a control premium only to the multiples of the guideline public companies that have announced acquisition offers
Accept the current pricing multiples as the only relevant information
Use caution and consider whether the current multiples are reasonable
Accept the historical market pricing data as the only relevant data since there is clearly a market bubble
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