Cung, interested in your comments, in particular, the following:
".... for instance, with asset writedowns you see company's investor relations team always say "oh oh - its non-cash etc etc"...but does it not suggest a mistake of overpaying in the past...".
What then would you put down as one or more of the main reasons for why companies have typically "overpaid in the past"?:
1. Inclusion or exclusion of abnormals as part of the valuation process? Remember, these can be both +ve and -ve abnormals. Hard to say. Only the CFO knows to what extent they factored for things to ensure that there was a normalised approach being followed. Arguably however this was why NIHL was separately treated as, in many respects, it was either considered abnormal to recurring operations or it was considered too uncertain as to then being future evolving in order to craft a definitive view on. Sometimes, when in doubt, step out and isolate.
2. The selected discount rate that is typically applied, especially in DCF analysis. Often the discount rate used is really a disguised variant on the underlying bias of management towards whether they really want to acquire the target or not. At the time, the numbers, the assessment and the approach adopted suggested (still suggests) that buying critical mass and going for growth was much more an important consideration than in selecting the right discount rate /rate range.
3. Leading on from 2), the distorted application of personal favour or bias as part of the decision input /assessment process, as opposed to the decision making process. The latter often tends to be driven on the basis of the recommendations produced from the former. Going for broke in the UK has always been a trap for the relatively experienced and the experienced alike. Not too many AU companies make this transition successfully.
4. The extent to which qualitative as opposed to quantitative measures are applied, as well as the weightings typically given to these. For example, there is a world of difference between acquiring a business as either a complementary fit to an existing function, or expanding both reach and spread /presence, and deciding to take a quantum leap at growing critical mass within a shortened time frame. This is what Skippen referred to in his Director interview of Aug15.
5. The extent to which management's interests are aligned to those of their shareholders (ie: this doesn't make for risk averse decisions being made but does mitigate the higher end risk taking experience as the alignment of interests means that other considerations are also being factored in as part of the decision making process). This one is hard to say, but there has always been much argument as to whether the interest of management etc were ever genuinely aligned with those of the shareholders. Maybe so in the early days but not necessarily so long after this.
6. The extent to which assumptions are themselves built into the various underlying calculations that are being made and, in doing so, are based on sound economic or commercial reasoning as opposed to personal preferences. This example typically impacts most against those businesses that are FX exposed, operate in different countries whilst shipping in management expertise as opposed to maintaining strong local management, and strong injected oversight. If this had been better practised, some of the mining sector decisions of the last 10+ years would not have been made. Just ask RIO, for instance. The primary assumptions utilised by SGH at the time would have been future, organic growth assumptions, quite possibly through leveraging the then AU growth rates and simply transposing them to the UK environment.
7. The extent to which the valuation modelling follows the validation of DD enquiries etc (that is, was worked out following own verification of the underlying numbers, etc). This, for example, was said to have been down in relation to Quindell, having regard tof the 70+ lawyers that were sent in as part of the legal DD, as well as the use /inclusion of Ernst & Young, ABL, McFarlanes, etc.
8. The extent to which the valuation modelling is dependent upon tax assessment /treatment of various input values. Tax is a wonderful leveler and often a destroyer of mighty business opportunities primarily because most valuations (especially within the larger business sector, and especially in mining and energy projects) are often tax driven. The retention of Greenhills from a tax advisory perspective has always been a fascinating curiosity within the overall context of how the Quindell acquisition unfolded.
9. As in 8) except that a variant on the discount rate applied concerns also the financing rate being used /utilised in the project. How often have valuation analyses come unstuck because of the underlying finance rates that have been applied to the calculations. Mind you, this is also a variant on the discount rate applying because the finance rates used are typically factored as part of the discount rate regime (either in applying it out, or in building up the foundation rates being applied, etc). With the PSD acquisition, you would have thought that this was mitigated against substantially through the rights issue that was done at the time. This suggests that perhaps it was the parallel spending spree (circa +$110M) that also occurred during F15 that was part of SGH's undoing at the time, with about 80% of it done in cash. For example - Nowicki ($45M), STOB ($19M), WSW & LAC ($30M), other UK acquisitions ($6M), other AU acquisitions ($10M).
Valuations, writedowns, projects going ahead or being scuttled are often done for many different reasons, including a s a result of getting wrong the original project economics, analysis and valuation. But they can also result from other factors, influencers or drivers, such as those discussed above, as well as external forces or influences at work, including change in market direction, change in business sentiment, change in political behaviour or control, or change in competitive forces applying, to name but just a few.
Expand
