The third and culminating module in the Financial Radar Screen value-based management software system consists of two tools to measure intrinsic value and share price - the first by projecting and discounting EVA ("What-If"), and the second by benchmarking performance and risk characteristics with the Russell 3000 universe and sector peers ("PRVit-neutral valuation").
"What-If" Value Simulation Model
"What-If" lets users choose among three EVA forecasting engines - ranging from a simple, two-element, margin times sales method to a full, 15 factor, EVA drivers model - and it automatically computes the total value and share price that corresponds to discounting the user's EVA projection.
Past results achieved for each forecast driver are displayed and analyzed on-screen so users can readily examine trends and formulate reasonable projection assumptions. Pre-programmed methods also enable users to estimate terminal value based on their view of how EVA will grow and decay after a 5 year forecast horizon. Key projection and valuation results can be stored and passed onto the PRVit-neutral valuation model for an added valuation perspective.
"What-If" is an extraordinarily powerful yet elegant and easy-to-use tool to accurately measure value and gauge the significance of key "value drivers." It is an ideal platform to support value-based corporate planning and acquisition pricing.
PRVit-Neutral Valuation
The summit of the Financial Radar Screen software system is reached with "PRVit-Neutral Valuation," a model that accurately estimates market values by statistically analyzing actual performance trends. It is an ideal tool to monitor the creation or destruction of shareholder wealth (MVA) taking place at private companies and in individual business units. The valuations are also useful inputs to strategic planning and acquisition or divestiture analysis, and for structuring phantom equity incentive plans.
The PRVit-neutral valuation model runs the standard PRVit investment rating model in reverse. Users must first set a target PRVit score - such as the median of the PRVit scores registered by public firms in the unit's sector. With that, the model iteratively solves for the intrinsic value that equates to that score, given the actual performance and risk characteristics exhibited by the company or business unit in question.
For any given target PRVit score, an entity that exhibits a positive and surely expanding economic profit trend will be assigned a higher market valuation than another whose EVA trend is less impressive or less reliable. To be more precise, the valuations are a function of:
- the level of and trends in the entity's risk-adjusted economic performance
- the general level of market multiples accorded to economic profit (as determined in the overall PRVit statistical analysis), and
- the targeted PRVit score (which in turn is a function of the market's valuation of the sector in question relative to all other sectors in the Russell 3000 universe).
PRVit-neutral valuations offer a number of significant advantages over alternatives:
- Because they are directly derived from observable EVA performance trends, the valuations are understandable and credible to line managers.
- Because they are based strictly on an objective statistical analysis of actual performance results, the valuations are generally more consistent and accurate than those obtained from external finance professionals or from a company's own business plan projections.
- The valuations are more consistent and accurate also because they are not based on a single ratio or perspective, such as a P/E or EBITDA multiple valuation, but rather on a statistically robust assessment of 12 key metrics which reflect growth, profitability, risk, momentum, cash flow and market-to-book spreads, to name a few.
- PRVit-neutral valuations can be estimated back in time - up to 20 years back - effectively recreating history and enabling corporate managers to see how much value has changed and why it has changed as performance has shifted in relation to that of peers and as the multiples assigned to EVA performance trends have been revised.
"PRVit-neutral" valuations are particularly useful to CFO's and corporate planners, and those who advise them, because they:
- provide owners of private companies with a reliable "planning value" for their firm with which monitor shareholder wealth and returns
- furnish top managers with strategic information that helps them to rationally allocate capital and prioritize business units for growth, contraction, restructuring, or sale
- inject an external stock market perspective, discipline, and sense of urgency into the management of internal operating units
- can be used as an input to mandated valuations
- can be used for determining the value of phantom equity in incentive plans
The PRVit-neutral module and reports are currently under development, and will be featured on this web-site by the end of February.
