Valuecruncher Valuation Reports include three approaches to valuation: economic (DCF), comparable and accounting (NTA). This newsletter discusses the role comparable company analysis plays in valuation.

Where DCF (discounted cash flows) and NTA (net tangible assets) focus on the specific characteristics of the company being valued comparable company analysis uses a relative approach. This relative approach values the company based on the market valuation of similar companies.

Comparable company valuation uses the valuation ratio of a publicly traded company or from the sale of a company and applies that ratio to the company being valued. The valuation ratio typically expresses the valuation as a function of a measure of financial performance (e.g. revenue, EBITDA or EBIT), occasionally operating metrics such as number of employees, customers or register users will be used in valuation ratios. The valuation figure used generally reflects the enterprise value (EV) or the value of the equity in the business; the equity value is usually represented by the share price.

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Yesterday Tourism Holdings Limited (THL) released an independent advisor’s valuation report to the market relating to the recent takeover offer made by MFS Living and Leisure Limited (MPY) of $2.80 per share. The independent valuation report placed a valuation range of $2.67 to $3.07 with a mid-point of $2.87 per share. This valuation is higher than the recent Valuecruncher valuation and the majority of the analyst valuations prior to the takeover offer. The independent advisors discounted cash flow (dcf) valuation was based on management’s financial projections, these projections were higher than the consensus estimates of analysts so it is understandable that the valuation would be higher. The independent advisors (Ferrier Hodgson) make an interesting comment on section 2.3 of the valuation report:

“MPY’s offer of $2.80 reflects a 2.5% discount to our base case valuation. We suspect many investors would apply a discount larger than 2.5% to our base case valuation to factor in the risk that THL will not achieve it’s forecasts, or that there may be some shock event in the tourism market.”

To put this comment in context lets revisit Valuation 101, dcf valuation methodology uses expected future cash flows discounted at a rate that reflects the risk associated with these cash flows. The majority of the time the people best placed to estimate a company’s future cash flows are the management.  Making long-term financial projections is difficult in any industry and particularly in the tourism sector where so many key factors are outside the control of management, this is why it is important to remember the projections should reflect the best estimate at the time. Any risk that THL will not achieve it’s projected targets should be reflected in the discount rate. The impact of “shock events” should be handled with scenario analysis, this is often a difficult and subjective task as “shock events” by definition are difficult to quantify. Ferrier Hodgson should have incorporated the risk associated with THL not achieving its projections into the discount rate they used to arrive at their valuation of $2.87 per share.

There is a range of valuations for THL in the public domain with a summary included in Table 7.9 of the Ferrier Hodgson report. THL investors will have to consider the merits of MPY’s offer based on their expectations of THL’s performance and the risk associated with these expectations. The Ferrier Hodgson report provides the management projections, industry overview and THL valuation required to make this decision.

Often at first glance the process of valuing your business can appear time consuming and intimidating. At Valuecruncher we have streamlined the process to the point where all that is required is a 1 page Excel worksheet and Valuecruncher will provide you with a 5 page valuation report within 48 hours. This post outlines the 5 steps involved in the Valuecruncher valuation process.

1. Collect the relevant information
 
The starting point for Valuecruncher valuing a business is the latest financial statements. The business’ accountant should be able to provide you with a copy of these.
 
Financial statements include:
 
1. Profit & Loss Statement        

2. Statement of Cash Flows        

3. Balance Sheet
 
Some accounting jurisdictions don’t require a Statement of Cash Flows – that isn’t a problem.  The profit and loss statement and balance sheet are the key starting point for completing the input sheet for a Valuecruncher valuation.  The only component we require from the Statement of Cash Flows is the capital expenditure for the business.  If there are any questions about the relevant information required – please don’t hesitate to contact the Valuecruncher team (http://www.valuecruncher.com/contact/).
 
2. Input relevant information into the Valuecruncher 1-page input sheet
 
Profit and Loss Statement
 
We start with the Profit and Loss Statement.  We are interested in four inputs from the Profit and Loss Statement and information on capital expenditure: revenues, profitability, depreciation and amortisation charges, and capital expenditure.
 
Compiling the Valuecruncher valuation input sheet: Profit and Loss Statement items - Example

Cash Flow Statement
The Cash Flow Statement provides the information required to compile the capital expenditure inputs.
Compiling the Valuecruncher valuation input sheet: Cash Flow Statement items - Example

Projections
 
The next step is then projecting forward key numbers – revenues, EBIT, depreciation and capital expenditure.  Valuation is a forward-looking exercise, even if the business mature and stable it is still important to compile projections.  Valuation is based on future performance of the business.  This may be the same as the current performance but it can also be materially, or slightly, different – either better or worse.  For a Valuecruncher valuation the Profit and Loss Statement projections are the key input.  The key projections required for valuation purposes are revenues, profitability, depreciation and capital expenditure.
 
Each business is different and has different expectations of future performance.  If the business is stable and not expecting to grow significantly then making projections is reasonably straightforward.  When the business is going through significant growth or the market the business operates in is uncertain – then the process is slightly more difficult.  It is however a good process for a business to look at what financial results it expects over coming years.  Making financial projections is subjective exercise that reflects the best estimate of an uncertain future. Don’t be intimidated by the uncertainty involved in compiling projections, they are only meant to represent the best estimate. Valuecruncher valuation reports provides sensitivity analysis that illustrates how alternative projections impact on the business valuation.
 
At Valuecruncher we often see a reasonably high-level approach taken to valuation – which is just fine.  It is typical for a business owner to say something like “we expect revenues to grow at 10% per annum over each of the next three years with profitability (at the EBIT level) margin (as a percentage) remaining the same as it is today.  We expect depreciation and amortisation to remain about where they are today.  We will be spending an additional $50,000 in capital expenditure next year but then expect capital expenditure to remain at the current level”.  With information even at that simplified level – the Valuecruncher input sheet can be completed.  If a business has detailed financial projections then these should be utilised.  Most businesses do not however have detailed projections.  High-level assumptions are all that is required for completing the Valuecruncher input sheet.
 
Some more tips for making projections
 
Revenue projections – a simplified approach to revenue projections involves estimating the short-term (next 3 years) revenue growth as a percentage. The estimated percentage growth can be based on historic growth rates or incorporate any expansion plans the business has. Valuecruncher can assist to covert projected growth rates into actual revenue figures if required.
 
Profitability projections – the best starting point for projecting profitability is the current levels. If the business is planning to introduce new technology or has recently increased production capacity it is possible that profitability will increase in the future – but there is usually an increase in costs associated with additional profitability. If a business has an owner that works in the business at a below market salary – this should be adjusted to market levels.
 
Businesses run at break-even – Valuecruncher often sees businesses that are run at break-even.  Our approach to valuation with these companies is to look what the level of profitability that companies in the industry typically operate at.  Then we will extrapolate that industry average profit performance to the business’ sales.  This approach provides a reasonable assessment of the value of the business even when the business is operating at break-even.  We have a table of average industry EBIT margins (click here).  If you are unsure or have questions about the appropriate EBIT margin to potentially use Valuecruncher is happy provide assistance.
 
Capital expenditure projections – when estimating capital expenditure required by a business it is important to consider the current status of the business’ assets and any investment that may be required for replacements or upgrades. Other examples of potential capital expenditure include research and development expenses.  The Valuecruncher input sheet also requires a terminal capital expenditure amount – this is simply the “typical” level of capital expenditure that the business would anticipate into the future.  We include this amount to ensure that capital expenditure figures do not get inflated by current spending and truly reflect the on-going capital expenditure of the business.
 
Depreciation – the starting point for projecting the depreciation charge is the current amount. If the business plans to invest in fixed assets the depreciation charge can be expected remain constant and potentially increase. If the business has no plans to invest in its assets the depreciation charge can be expected to decrease.

Balance Sheet

The Balance Sheet inputs for the Valuecruncher valuation are only historic numbers – there are no projections required.

Compiling the Valuecruncher valuation input sheet: Balance Sheet items - Example

3. The valuation calculation
 Valuecruncher incorporates the projections and balance sheet values supplied by client (via the input sheet) into a discounted cash flow (DCF) model. Valuecruncher estimates the long-term growth rate and the required rate of return for the business. Valuecruncher will calculate the sensitivity of the valuation to the projected revenue and profitability supplied by the client. The sensitivity analysis provides an indicative valuation range.  The DCF valuation is supplemented by comparable company analysis and an asset based valuation.
 
Comparable Company Analysis – Valuecruncher has an extensive database of information on companies in a wide range of industries around the world. Using the database Valuecruncher will compare the DCF valuation output with the implied valuation based on prices comparable companies have sold for and trading prices of publicly listed companies. Comparable company analysis is a relative measure of value that provides a check for the DCF valuation. The comparable company analysis does not incorporate the unique features and opportunities of a business but provides a market-based estimate of value.
 
Asset Analysis – Valuecruncher calculates the value of the business’ net tangible assets (NTA). This is a purely accounting based measure that incorporates the current book value of the business’ assets.  NTA is not a forward looking approach and it does not evaluate the earning potential of the assets. The NTA methodology is often impacted by the accounting treatment of assets (i.e. depreciation policies).
 
These three valuation methodologies form the cornerstone of the valuation frameworks used in global investment banks and major accounting firms.
 
4. Valuecruncher review the valuation
 Upon completing the valuation calculations a member of the Valuecruncher team will independently review the valuation including the projections and inputs provided by the client and the assumptions applied.
Common issues identified with valuations include:

• Client revenue projections are overly optimistic reflecting a “best case” scenario opposed to an expected case.
• EBIT margins are too high because all costs are not being incorporated. Often the “actual” owner’s salary is not fully reflected in the financial statements.
• EBIT margins are too low because the company is being run at breakeven point with the owner expensing items through the business that are not part of the business’ operations.
• Projected capital expenditure does not reflect the investment required to generate the projected growth.
   

If Valuecruncher identifies an issue that materially impacts the valuation the client will be contacted to clarify the issue before the valuation report is generated.
 
5. Valuecruncher provide the valuation report
 Valuecruncher compiles the inputs provided and the valuation outputs into a five-page valuation report. The valuation is expressed as an indicative range based on the DCF sensitivity analysis with a mid-point reflecting the inputs and projections supplied by the client; this is supplemented by the implied comparable company and NTA valuations. The report includes a summary of the valuation outputs and highlights any assumptions that may need to be reviewed. If after inspecting the report and assessing any potential issues raised by Valuecruncher the client wishes to revise the initial inputs provided, Valuecruncher will provide an updated valuation report for no additional fee.

Get a Valuecruncher valuation - click here

Download a PDF version of 5 Steps to Valuing a Business - click here

Last week Rakon announced its annual results for the 2007 year and issued their revenue and EBITDA  forecasts for 2008. Rakon’s revenues exceeded the projections in last year’s prospectus by 17% reaching $106.2 million and producing $20.3 million EBITDA (31% higher than the prospectus forecast). Rakon has forecast revenues growing to $200 - $220 million in 2008 and EBITDA increasing to $32 - $38 million. Based on the latest Rakon guidance figures and Valuecruncher’s analysis we have placed a mid-point valuation on Rakon of $5.38 per share with a range from $3.67 to $6.31. Rakon was trading at $5.50 per share at the time of this valuation.

Two key points arise from this valuation.

1. Why is the valuation range so wide?

2. Why has Valuecruncher’s valuation increased so dramatically from the January 2007 mid-point estimate of $2.59 per share?

Valuation Range

The width of the Valuecruncher valuation range reflects the scenario analysis used by Valuecruncher. Because there are limited relevant publicly listed comparable companies for Rakon and the high phase the company is currently going through Valuecruncher constructed two scenarios to looking at the impact of lower than projected EBIT growth and alternative cost of capital assumptions. If short-term EBIT growth is only 80% of the projected levels the valuation drops to $4.22 per share.

Increased Valuation

The increase in the Valuecruncher valuation from January is a direct result of revised revenue projections. The January valuation projected revenue of approximately $100 million for 2007 growing to $156 million in 2009. These projections are significantly lower than the Rakon forecast for 2008 of $200 - $220 million.

Assumptions

Valuecruncher has assumed that revenues will grow to $350 million in 2010, with EBITDA increasing to $85 million 2010, these projections reflect a compound annual growth rate of 49% and 67% respectively. The terminal growth rate is set at 6% representing expected ongoing high growth rates in 2011 and 2012. The cost of capital of 13% reflects the risk associated with the projected growth.

Key Uncertainties

Capital Expenditure

Rakon has recently increased capacity, acquired the frequency control products division of C-Mac MicroTechnology, these developments have contributed to increased production capacity. Rakon has announced it is investigating developing additional manufacturing facilities in China. To facilitiate the projected growth Rakon will need to further expand capacity. Whether the Rakon do this through acquisitions, partnerships or new factories they will require capital expenditure. Valuecruncher has forecast capital expendiutre of $15 million, $10 million and $10 million in 2008, 2009 and 2010 respectively. Higher levels of capital expenditure may be required to produce the growth projected.

Growth

Over the last two years Rakon’s growth has been impressive and they are expecting to double revenues in 2008. The increased revenue in 2007 was driven increased revenues from the Asian market, to reach the projected revenues Rakon will need strong growth from the US and European markets. The recent acquisition also diversifies Rakon’s product range.

Rakon’s share price appears to be fully reflecting the growth potential of the company but based on the performance over the last 12 months the company appears to be doing everything right. Rakon have an enterprise value of approximately $700 million, revenues of over $100 million, projected to double in the next month and over 50% of the global GPS market. Rakon is a true New Zeland success story. We need more. 

Rakon Valuation Report

Yesterday Valuecruncher received a tour and presentation from Rod Drury at the Xero offices.  It was our first chance to see the product up close and it is impressive.  Rod has built an “A” team to execute on the business plan.

Valuecruncher believes that if Xero is successful then one of the large players in the industry will likely acquire the company to implement a Software as a Service (SaaS) offering.  Xero is a pure-play SaaS model and if Xero is successful and there is a significant market demand for a SaaS product then other players will need to reconfigure their offerings to incorporate this.  Valuecruncher does not believe that Xero’s competitors (MYOB, Sage and Intuit) will standby and watch a start-up using a business model they can copy dominate the industry.  Why could they copy the business model?  These competitors want the customers that Xero are targeting and the profit margins Xero are able to obtain will be attractive as well.  These competitors would have the motivation and financial resources to go after the SaaS market if it proves to be attractive.  The acquisition of 42 Below by Baracrdi is a reasonable model for what we would expect the outcome to be for a successful Xero.

What does a successful Xero look like?

In our view there is one key metric – the number of customers that Xero obtains.  Xero has a recurring revenue model (monthly payments from customers – NZ$75 per month is the assumption in the Prospectus [page 48]).  Once you sign up a customer they will produce a monthly revenue stream for as long as they are happy and need an accounting product.  There will be some churn but this is a good model if Xero can get it to work.

The Xero Prospectus states that “New Zealand revenue will begin to exceed its New Zealand cost base at around 8,000 customers” [page 34].  With the SaaS business model we would expect a reasonably fixed cost base for the company – i.e. once Xero covers its costs the resulting revenues will represent mostly profit.

Based on the 8,000 customers at NZ$75 per month Xero outlines in the Prospectus this cost base is approximately NZ$600,000 per month or NZ$7.2 million per annum.  This is New Zealand only and Xero is looking at Australia and the UK as well so we will push that out to 10,000 customers at NZ$75 per month for an annual fixed cost base of NZ$9.0 million.  Based on this analysis – when Xero gets over 10,000 customers it starts to become profitable fast.

If you are investing in the IPO with a valuation of NZ$55 million – what does this mean as a breakeven customer number?

The following are very high-level numbers.  Assuming everything above 10,000 customers or NZ$9.0 million of revenues is 100% profit (we think it will actually be less than 100% but this is indicative analysis only).  We have seen analysis estimating company value at 10x EBITDA which is probably reasonable.  MYOB trades at 7.3x EBITDA, Sage at 14.0x EBITDA and Intuit at 13.3x EBITDA.  To risk adjust this to factor in the time to achieving this position we have worked backwards at a 20% discount rate for five years.  This means that to be equal to the NZ$55 million valuation today Xero would need to be worth NZ$137 million in five years.  For Xero this represents NZ$22.7 million of revenues (less the NZ$9.0 million of fixed cost base) or approximately 25,000 customers in five years.  To put this in context MYOB generates approximately NZ$30 million of revenues in New Zealand alone.

If you are going to invest you will need to believe that Xero will get to these 25,000 customers in five years without any additional capital.  You will think it is a good buy if you believe they can sign up a lot more customers than 25,000 in five years with the funds from the IPO.

The Xero Prospectus projects customer numbers at 1,300 at the end of year 1 (10 May 2008) [page 48].  Under key Milestones [page 34] the Prospectus states Xero’s Directors do not believe that the company will make a profit in the first three years and uses 8,000 customers as the breakeven number.  We will assume 8,000 customers at the end of year 3 (10 May 2010).  This means that Xero would have two years to grow the customer base to 25,000 from 8,000.  It should be noted that lawyers insist that companies are conservative in making any projections in a Prospectus.  By going down an IPO route we believe that the company is probably looking at far more aggressive growth in the initial years.

Again from the Prospectus [page 23] – SMEs by country Xero are focusing on: UK 4.3 million, Australia 1.2 million and New Zealand 322,000.  But as a qualifier – Intuit in the US estimate that 60% of the 26 million SMEs in the US don’t use any accounting software (page 2 of 2006 Intuit Annual Report).  Xero are targeting this segment– but there will always be a component that doesn’t consume.

Do we think that Xero will get to 25,000 customers in five years?  We honestly do not know.  But we believe that is the key to assessing the Xero IPO – what is the customer uptake is going to be?

With early stage companies – losses are fine as long as value is being created.  Investors in Xero should basically ignore the losses the company will make over the first few years after the IPO (as long as they don’t burn all the cash too quickly).  The key metric to understanding the business will be the customer uptake.  Investors should watch that customer uptake closely and have an opinion about where it is going to understand the value of Xero.

We would be very interested in opinions about what the uptake will be.

Note:

This analysis is very high-level and relies upon some key assumptions that are certainly open to debate.  Namely: a 20% discount rate, that Xero would be valued at 10x EBITDA, the fixed cost base of NZ$9.0 million, and 100% of revenues above the fixed cost base equal EBITDA.  We would expect a variable cost component to each sale made but it is impossible to determine exactly what this would be.

On Friday evening Wellington based company Xero released a prospectus and offer document with the intention of raising $15 million via a listing on the main board of the NZX. Xero is a startup company that is developing an online accounting software package for small and medium enterprises (SMEs). The company has an excellent team including founder and CEO Rod Drury and independent directors Sam Morgan and Guy Haddleton who each have outstanding track records with their own business. Valuecruncher has the utmost respect for these people and their achievements and believes that it is possibly the best team that could be assembled in New Zealand for this type of venture. Valuecruncher very much wants to see Xero succeed but feels there are some issues surrounding the IPO that need to be raised.

Valuation

The offer of 15 million shares at $1.00 per share implies a pre-money (prior to the IPO) value of $40 million and a post money value of $55 million. The valuation of a pre-revenue company such as Xero is a subjective exercise that often relies on the rule of thumb estimates of venture capital investors (see Valuecruncher’s April Newsletter). Valuecruncher recognizes the size of the global accounting software market but think its highly competitive nature and the projected time before Xero reaches profitably makes the pre-money valuation of $40 million expensive. Based on information contained in the prospectus it appears that the $1.3 million raised in March 2007 was raised at $0.25 per share, this is a quarter of the price that the public has been offered to invest less than two months later.
 

Capital Markets v Venture Capital

Companies at Xero’s stage (i.e product development / testing stage) typically raise capital via private equity (venture capital [VC] funds). Generally companies’ wait until they have established revenues and a track record of financials before undertaking a public listing. There are three primary reasons for pre-revenue companies not undertaking public listings:

1. Risk
   

At the pre-revenue stage it is difficult to determine which startup will be successful and which will fail. VC funds address this issue by holding a portfolio of early stage companies recognizing that a significant portion of the portfolio will fail. Investors in the public markets often do not have the same ability to diversify their exposure to startups and consequently require a significant discount to invest and can only justify allocating a small portion of their portfolio to startup companies.
 

2. Listing Costs
   

The Xero prospectus lists the costs related to the IPO at $1.02 million or 6.8% of the capital to be raised. For the majority of start-up companies the cost associated with a public listing cannot be justified for the amount of capital required
 

3. Continuous Disclosure
   

The continuous disclosure and quarterly reporting requirements of being listed on the NZX main board can be a costly and time-consuming exercise for an early stage company where resources are often limited. While we at Valuecruncher understand that losses are fine as long as value is being created. This is a difficult concept for ordinary New Zealand investors to grasp. Explaining to the market how substantial losses over the next few years is the plan will be a challenge.
 
Xero obviously believe the benefits of listing outweigh these issues but we at Valuecruncher believe that based on the skills and track record of the personnel Xero has assembled they could have raised the required capital in a private funding round and avoided these issues.  Having raised the capital privately the option of listing would still be available in the future. Given the projected cash burn and the anticipated time to reach profitability Xero may require a further injection of capital within two years.
 

SME Accounting Packages and Software as a Service

Extract from Xero Prospectus and Offer Document 
 
Competitive landscape The market for accounting systems for the SME market is large, but fragmented. Whilst there are established providers of traditional accounting software packages in Xero’s target markets, the Directors are not aware that any of the larger competitors to Xero have completely adopted a SaaS model. The Directors believe that the products offered by Xero’s most likely potential competitors are predominantly focused on traditional methods of software delivery encompassing an upfront licence fee, software upgrades and ongoing maintenance and services charges. SaaS is a fundamental shift from how software is traditionally delivered; it requires new technology architectures and the nature of customer relationships are different. The Directors believe that larger competitors are not as well placed to completely change their business models to the SaaS model which Xero offers. If so, this situation provides a good opportunity for Xero as a fast moving, unencumbered new entrant, operating from a low cost of sale environment to firmly establish
itself in the marketplace. The leading providers of accounting software packages tend to be large international companies, including MYOB (in Australia), Sage (in the UK) and Intuit (in the USA). These companies are listed on stock exchanges in their respective countries.
 
The product being developed by Xero does not represent a disruptive innovation; it focuses on taking an existing product and delivering via an online interface. The core point of differentiation appears to be the SaaS model. Although none of the major players appear to have fully embraced the SaaS model, there are a number of examples of similar products being developed. If significant demand for SaaS were to emerge, we believe the major players would quickly embrace the transition from software in a box to an online solution. These participants have established products, distribution channels and customer bases in place and will compete vigorously to defend their market share.
 
The initial feedback on the product suggests it is a high quality offering with a first-rate interface, the excellent team assembled and the size of the market suggests that there is definite potential for Xero. Realising this potential will be dependent on Xero’s ability to acquire customers in a market where the switching costs for customers are high. Valuecruncher finds it difficult to reconcile the current status of Xero with the pre-money valuation of $40 million but hope they will be successful.

Valuecruncher provides rapid cost effective valuations for:

• Selling a business
• Buying a business
• Capital raising 
• Succession planning
• Tax and trust planning
• Shareholder disputes
• Family issues

Click here for a Valuecruncher Valuation Report

Australian private equity firm Ironbridge Capital has made a $2.43 per share takeover for CanWest MediaWorks (NZ). Ironbridge Capital has an agreement with CanWest Global to secure their 70% shareholding. The offer of $2.43 implies an enterprise value of approximately $730 million and an EV-EBIT multiple of 14.

In March Valuecruncher estimated a mid-point valuation of $1.67 per share for CanWest MediaWorks but highlighted potential reasons for the stock trading over $2.00. One reason was the possibility of a private equity takeover offer arising from CanWest Global’s strategic review. Valuecruncher has re-run it’s March 2007 valuation from the private equity point of view. Based on the assumptions made in the analysis of the Yellow Pages transaction Valuecruncher has estimated a cost of capital (WACC) of 9% for a private equity firm acquiring CanWest MediaWorks. Based on the private equity assumptions Valuecruncher places a mid-point valuation of $2.50 a share with a range of $2.03 to $3.00, the Valuecruncher mid-point is slightly higher than the Ironbridge Capital offer of $2.43. Based on Valuecruncher’s analysis and recent private equity transactions we believe a private equity player could justify a higher offer but this is unlikely to eventuate given the lock-up agreement with 70% shareholder CanWest Global.

Valuecruncher Valuation Report - CanWest MediaWorks(NZ)

ValueWiki was founded by Jonathan Stokes and Zach (sorry not sure of your last name) as “an investment site for pooling investment research. Our Mission is to create a single source for investor information in the most efficient possible format.”. It has the potential to be an excellent resource if it can collate the best components of each of the multitude of finance sites in one location by company. Valuecruncher valuation reports are posted under the research section on ValueWiki (thanks guys) and the site is definitely worth checking out. It will be interesting to observe how the site evolves.

Valuecruncher Valuation Report - Dow Jones & Company 

Rupert Murdoch’s News Corp has offered $60 a share for The Wall Street Journal publisher Dow Jones & Company, the unsolicited offer values the company at over $5 billion. Dow Jones & Company’s other publications include Dow Jones Newswire, Barron’s and MarketWatch.com. Dow Jones & Company would provide an excellent fit with Murdoch’s upcoming launch of the Fox Business channel. Despite the offer of $60 per share representing a significant premium to the closing price on Friday 30 April 07 of $36.33 the Bancroft family who collectively represent approximately 52% of the voting rights have indicated they will oppose the offer.

Based on analyst’s projections Valuecruncher values Dow Jones & Company at $34.89 per share with a range of $28.21 to $41.93. Valuecruncher’s valuation is slightly below the pre-offer price of $36.33 and the Murdoch offer is considerably higher the than the upper end of Valuecruncher’s sensitivity range. The offer price of $60 implies and EV-EBIT multiple of 35.6 compared to the Valuecruncher mid-point of 21.3. Pearson’s whose operations include the Financial Times and book publishers The Penguin Group are currently trading at an EV-EBIT multiple of 16.

Based on the discounted cash flow and comparable company analysis Rupert Murdoch’s offer appears attractive. I will give the Bancroft family the benefit of the doubt and assume that they are playing hardball and waiting for Murdoch to increase his bid. In the absence of an alternative offer this one appears a no brainer - take the cash.

Valuecruncher Assumptions

Cost of Capital (WACC): 10%

Short-term EBIT Growth: 56% (2007), 17% (2008) and 19% (2009) - Based on analysts estimates.

Terminal Growth Rate: 3%