Financial Analysis and Business Valuation (Moore)
Chapter 1
Welcome to Fin 3321
Financial Statement Analysis
Administrative Items:
 Finance Association Recruiting Trip
 ASA Valuation Club and Working towards Certification
 Course Syllabus
 Valuation Projects and Group Formation
 Course Overview
o Relation of Course to Finance and Business Program
o Value-Added Skills Provided. Firms Pay a Premium.
 Chapter 1
Course Motivation/Intro:
1. Wall Street Journal - IPO Announcements
Price
Range
___Date___ _____Issuer_________
_Shares_
2-Aug-07 Concho Resources Inc
20.89M $14.00-$16.00
May 2012 Facebook
337.4M $34 - $39
Nov. 2013 Zulily (GS & BoA ML)
11.5 M
$20 - $22
Feb. 2013 Boise Cascade
11.8 M
$16 - $18
$18 - $20
??
??
How much are these companies worth ??
How are the expected IPO values determined ??
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Financial Analysis and Business Valuation (Moore)
Chapter 1
2. Headline (Wall Street Journal)
“Investors Fear Earnings Growth May be Slowing”
??
What do earnings (accounting value) have to do with
equity prices (market value) ??
3. Headlines (AP and Reuters)
U.S. Foreclosures Rise Sharply in July (AP)
Tuesday, August 21 8:19am ET
US financial industry job cuts soar-Challenger
Tue Aug 21, 2007 12:22PM EDT (Reuters)
4. Job Advertisement – Wall Street Journal
MorningStar
Equity Analyst
Morningstar is hiring outstanding stock analysts in its Chicago
office. We like creative thinkers who understand what separates
great businesses from the mediocre majority.
Curiosity
punctuated with skepticism is also a trait that we admire. Our
analysts have industry specializations, determine fair values on
select groups of stocks and write research reports on them. If
you can insightfully evaluate business models, love investing &
possess excellent writing & verbal skills, let’s talk …
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Financial Analysis and Business Valuation (Moore)
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Chapter 1
Financial Analysis and Business Valuation (Moore)
Chapter 1
Why Value “Stuff” (i.e. a business)?
Valuation Contexts and Applications (Private and Public)
 Mergers and Acquisitions
 ESOP plans
 IPO’s
 Financial Information for Credit Decisions (Bankers)
 Gift and Estate Taxes
 Corporate, Partnership and Marriage Dissolutions
 Stockholder Actions
 Damages (litigation)
Who Uses and Relies Upon the Valuation Information/Product
 Owners
 Investors
 Attorneys
 Courts
 Underwriters and Bankers
Why are Valuation Standards and Valuation Credentials Required?
 For Same Reason we have CPA’s, GAAP and IFR’s
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Financial Analysis and Business Valuation (Moore)
Chapter 1
A. Structure of the profession
1. Entire firms specializing in business appraisal
2. Departments of firms primarily doing other things, such as CPA firms,
banks and multidisciplinary firms
3. Part-time practitioners
B. Role of the business appraiser
1. Business appraisers generally provide two types of services:
1. An objective and independent valuation of business interests.
2. An advisory, or consulting role in determining a value most
beneficial to a client’s position
 (In such an advisory role, the appraiser may not be expressing
an objective opinion of value.).
3. There is typically a presumption of objectivity in an appraisal of
business interests, unless an advisory role has been previously agreed
to and clearly identified to those depending upon the appraiser’s work.
C. Services offered
1. Opinions of value
a. Equity value
b. Invested capital value
c. Intangible asset value
d. Other—options, debt
2. Consultation regarding values
3. Structure terms, sometimes for several classes of investors, such
as employee stock ownership plans (ESOP) or leveraged buyouts
4. Fairness opinions
5. Solvency opinions
6. Assistance in negotiating purchases/sales
7. Mediation/arbitration of disputed valuations
8. Litigation support in disputed valuations
9. Expert testimony
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Financial Analysis and Business Valuation (Moore)
Chapter 1
D. Necessary Business Appraisal Skills and Qualifications
A. Appraisal Skills
B. Professional obligations for appraisal skills
1. The Uniform Standards of Professional Appraisal Practice
(USPAP), discussed in more detail later in the course, obligates the
appraiser to exhibit competency in performing appraisals.
Competency implies that the appraiser is familiar with the specific
type of property, the markets in which it sells, and analytical methods
used to value the property.
2. The position of the American Institute of Certified Public Accountants
(AICPA) on Professional Competence (education and qualifications)
taken from the AICPA Consulting Services Practice Aid 93-3 (no longer
in print).
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Financial Analysis and Business Valuation (Moore)
Chapter 1
C. Appraiser professional qualifications
1. Academic background in business administration, typically in finance,
including bachelors, masters or doctorate degrees.
2. Professional designations
a. ASA: Accredited Senior Appraiser. Senior member of the American
Society of Appraisers accredited in business valuation. This is
oriented primarily toward closely held companies
Primary
(i)
(ii)
(iii)
requirements for certification include:
Successful completion of BV201 through BV204
Peer review of one appraisal report
Five years of full-time equivalent appraisal experience
b. AM: Accredited Member. Member of the American Society of
Appraisers accredited in business valuation. Primary requirements
for certification include:
(i)
(ii)
(iii)
Successful completion of BV201 through 204
Peer review of one appraisal report
Two years of full-time equivalent appraisal experience
c. CFA: Chartered Financial Analyst. This is oriented primarily toward
publicly traded companies and for securities analysts. For
information, visit the CFA Institute Web site at www.aimr.com.
d. CVA: Certified Valuation Analyst. This is awarded by the National
Association of Certified Valuation Analysts to CPAs, many of whom
are part-time practitioners. NACVA also issues the following
designations: AVA (Accredited Valuation Analyst) and the GVA
(Government Valuation Analyst). For more information, visit
NACVA’s Web site at www.nacva.com.
3. Continuing Education Requirements (necessary for all programs)
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Financial Analysis and Business Valuation (Moore)
Chapter 1
Chapter 1 – Framework for Business Analysis and Valuation
A.
Role of Financial Reporting in Capital Markets
Business 
Ideas
Information
Intermediaries
Firms
Accountants
Analysts
SEC
Media
Bond Raters
-> Savings
Investors
Pensions
-> Financial
Intermediaries
Venture Cap.
Mutual Funds
Invest. Banks
Insurance
Information Asymmetries and Agency (Incentive) Problems
Role of Market Efficiency?
Market for Lemons??
Buy Insurance
Bad Driver
Good Driver
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No Insurance
Financial Analysis and Business Valuation (Moore)
B.
Chapter 1
Focus on Financial Statements
1. Financial Reports are 1 major mechanism in which the firm
“credibly” communicates financial and operating performance
a. Linkage between Financial Reporting System and Business
Activities well diagramed in Figure 1-2.
2. Accrual Accounting (AA) vs. Cash Accounting (CA)
a. Attempts to capture: Transactions, Events, Circumstances.
Hence, measures and matches expectations. (AA)
b. Matches Revenues and Expenses (AA)
c. Proxies “Economic Income”
Benefits and Costs.
(AA).
Recognizes Economic
3. Major Financial Reports (Statements):
a. Income Statement (Periodic Performance) – Accrual Based
- Classified. Shows “comprehensive income”
b. Balance Sheet (Statement of Financial Position)
- Mixes Historical Cost and Mark-to-Market
- Assets = Liabilities + Equity
- Classified by Current vs. Long-Term
c. Statement of Cash Flows
- Operating Activities (cash equivalent to operating inc.)
- Investing Activities
- Financing Activities
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Financial Analysis and Business Valuation (Moore)
C.
Chapter 1
Role of FASB, IASB and Auditing Function
1. FASB (Financial Accounting Standards Board) and IASB set
accounting standards (financial reporting rules).
a. Standards promote quality of financial information, assist in
comparability (uniformity), attempt to increase substance
over form, enhance relevance (decision usefulness and
valuation relevance).
b. Audit function serves to enhance confidence in financial
information. Serves as costly control mechanism. Does not
guarantee numbers are correct.
c. Conservatism of financial reporting standards may reduce
valuation relevance. (slow to adapt; goodwill; R&D; etc.)
d. Uniformity vs. flexibility tradeoffs.
D.
Transparency & Management Reporting Strategy
1. Transparent Financial Reporting Practices allow users to
gain a “true and fair” picture of the firm’s financial and
operating performance and position.
2. Management has discretion as to the level, detail and depth of
financial information presented in reports. “Liberal” uses of
accruals, deferrals, and aggregation can lead to “less
informative” financial reports.
a. “Aggressive” Accounting practices can materially distort
representation of performance. This can lead to earnings
management, income smoothing and, sometimes,
fraudulent financial reports.
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Financial Analysis and Business Valuation (Moore)
E.
Chapter 1
Financial Statements & Business Analysis Process
 This process summarizes the sequence of the course and the
valuation project.
 Key Figure to Summarize section are Fig 1-2 and Fig 1-3
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Chapter 1
Financial Analysis and Business Valuation (Moore)
Chapter 1
1. Big Picture: Know the Business and Industry (Specialists)
 Understand the Economy (domestic and international)
 Understand the Industry
o Firm
o Competitors, Concentration, Value Drivers
o Past Performance and forecast trends
o Five-Forces Analysis of Industry
o Classify Industry and Identify Value Drivers (“Key
Success Factors” (KSF’s) associated with the Industry
Classification)
o Determine whether Firm’s strategies are consistent
with identified KSF’s
2. Accounting Analysis:
 Degree of Disclosure and Transparency
 Level of Disaggregation (Details)
 Evaluate quality of accounting reports
o Qualitative: Degree of Disclosure and Transparency
o Quantitative: Accounting Manipulation Diagnostics
 Analysis of “Significant Accounting Policies” (Discretionary)
and Disclosure Related to KSF’s (“Key Accounting Policies”)
 Adjust statements for deficiencies (make unbiased)
3. Perform Financial Analysis:
 Link financial report information to financial and operating
performance metrics
 Ratio Analysis
o Liquidity, Operating Efficiency, Cost Structure,
Leverage, Debt Capacity, Cash Flow
 Evaluate past performance and trends
o Firm over time
o Industry over time
o Firm relative to industry
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Financial Analysis and Business Valuation (Moore)
Chapter 1
4. Perform Prospective Analysis (Forecast)
 Based on current relationships and forecast activities,
estimate future financial position and operating results.
5. Estimate Value of Firm (Equity) or other Activity
 Requires valuation model(s) and framework
 “Naïve” traditional valuation multiples (ratio-based values)
 Theory-Based Valuation Models
o Requires Estimation of Cost of Capital
o Different Valuation Models Require Different Inputs
o Relies on forecast future performance associated with
models.
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