Numbers To Value

So, let's bring everything together. Earlier, the professor explained to us to test the possibility / plausibility of a story. Then he told us to write a connecting story. Thereby in the previous chapter, we defined the drivers of value, namely the sales growth, operating profit margin and reinvestment. In this chapter therefore, we will move on to assigning a value to those drivers.


As you review the mechanics of this story, it is worth emphasizing that the inputs are interconnected, that is, changes in one almost always trigger changes in the others. Thus, if you decide to increase the growth rate in a valuation, you have to consider how much your reinvestment will need to change to deliver that growth and whether you will have to alter your business mix (and the risk of that mix) and financial leverage to deliver that growth. 


Let's look at the numbers assigned to the Uber story by taking the different input factors and their assumptions:


  • Total Market: The total size of the urban car service company in the base year is $100 billion, growing at 3% per year, pre-Uber. Uber and other ride-sharing companies will attract new users into the business and increase the expected growth rate to 6% per year.
  • Market Share: Uber will reach a 10% market share of the total market, with the market share rising each year to get to this level.
  • Pre-tax operating margin & taxes: Uber's operating margin will rise from 7% (base year) to 40% by year 10, and Uber's tax rate will drift up from current levels (3196) to the marginal tax rate for the United States (40%).
  • Re-investment: Uber will be able to maintain its current low capital-intensity model, generating sales to a capital ratio of 5.
  • Cost of Capital: Uber's cost of capital starts at 12% (the 90th percentile U.S. companies) in year 1 and drifts down to 10% in year 10 (when it becomes a mature firm).
  • Likelihood of failure: There is a 10% chance that Uber, given its losses and need for capital, will not make it.

Once the cash flows (Post tax Operating profit – reinvestment) are estimated, we need to discount them at an appropriate discount rate. One needs to be very careful with the terminal growth rate as explained in the previous chapter. According to the author, terminal value comprises about 60-70% of the overall value of the company. 


Taking the present value of the cash flow to the firm for the next 5-10 years and subsequent terminal value will give us the enterprise or the firm value. Now there are a few adjustments like:


  1. Debt and cash: Debt needs to be subtracted from the firm value and cash needs to be added back.
  2. Cross holdings: In case, the company you are valuing holds a stake in other listed/unlisted entities, we need to add their proportionate valuation as well.
  3. Stock based compensation: This is an operating expense and hence needs to be adjusted.

The Professor also acknowledges that the valuation/ numbers would change with the story. For example, if the professor considered Uber as a urban + suburban car service company instead of just an urban car service company, the valuation will differ to a large extent.

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