As most students interested in finance and investment banking know, valuation is a big part of the job. While many students are familiar with the traditional three approaches – market based approaches (guideline public comparable companies, precedent transactions AKA selected transactions method), intrinsic value based approaches (Discounted Cash Flow), and liquidation / cost based approaches (net asset value), this article will go deeper into specific types of the valuation styles mentioned.
Relief from Royalty (RFR) – Valuing brand names and trademarks
This is a type of DCF where you multiply a royalty rate percentage (From industry research on past comparable royalty rates used) by the forecasted revenues of the business you are valuing. In other words, The RFR is based on a hypothetical royalty (typically calculated as a percentage of forecasted revenue) that the owner would otherwise be willing to pay to use the asset—assuming it were not already owned. These cash flows are then discounted by the WACC typically plus a premium for being an intangible asset – the rationale being intangible assets are riskier than tangible ones (usually WACC + 1% or 2%).
Multi-Period Excess Earnings (MPEEM) Approach – for valuing primary intangible assets (e.g. customer relationships, developed technology, etc.)
The Excess Earnings method calculates the value of an asset based on the expected revenue and profits related to that asset, less the portion of those profits attributable to other assets that contribute to the generation of cash flow (e.g., working capital, fixed assets, assembled workforce, etc.). The idea is there are various assets that support the revenues associated with the primary asset and that these assets have to be subtracted out as costs.
Post-Money Approach – Valuing Startups that have raised capital
The Post-money approach is a backsolve method that is very intuitive and obvious. Investopedia explains it well. Investors such as venture capitalists and angel investors use pre-money valuations to determine the amount of equity they need to secure in exchange for any capital injection. For example, assume a company has a $100 million pre-money valuation. A venture capitalist puts $25 million into the company, creating a post-money valuation of $125 million (the $100 million pre-money valuation plus the investor's $25 million). In a very basic scenario, the investor would then have a 20% interest in the company, since $25 million is equal to one-fifth of the post-money valuation of $125 million.