About this video

• Video Title: Topic Explainer: AFM Valuations
• Channel: ACCA Student Study Resources
• Speakers: Rashad Hussein
• Duration: 00:20:07

Overview

This video, hosted by Rashad Hussein on the ACCA Student Study Resources channel, explains key concepts and potential pitfalls in valuation for the Advanced Financial Management (AFM) exam. It covers valuation methods, acquisition valuation, post-acquisition value, and specifically highlights tricky adjustments that students often struggle with, using a detailed example to illustrate the process.

Key takeaways

• Valuation Methods: The video introduces various valuation approaches, including asset-based, market-based, and cash-based models, with examples like book value, P/E ratio, and free cash flow.
• Acquisition Valuation Process: It outlines a systematic approach to valuing an acquisition, starting with calculating beta assets for both companies, finding an average beta asset, re-gearing to find a new beta equity, and then calculating WACC to discount future cash flows.
• Post-Acquisition Value Calculation: The process involves combining the free cash flows of the acquiring and target companies, adding any synergy, discounting these combined cash flows at the post-acquisition WACC to find the firm's value, and then subtracting the debt to arrive at the equity value.
• Tricky Adjustments: Common errors include missing synergy, incorrect beta equity calculations, not accounting for tax on the cost of debt, and errors in calculating terminal value and the final equity value by neglecting to subtract debt.
• Skepticism and Commercial Comment: For professional marks, it's crucial to not only present the numerical answer but also to include critical analysis, skepticism about assumptions (like constant growth rates), and commercial commentary on the implications of the valuation.

The steps involved in calculating the post-acquisition WACC are:

1. Calculate Beta Asset for both companies: Un-gear the equity beta of each company using their respective market values of equity and debt, and the corporate tax rate.
2. Calculate Average Beta Asset: Determine the weighted average beta asset using the total asset values of the bidding and target companies as weights.
3. Re-gear Beta Asset: Re-gear the average beta asset using the post-acquisition capital structure (including any new debt taken for the acquisition) to find the new beta Equity.
4. Calculate CAPM: Use the new beta Equity in the Capital Asset Pricing Model (CAPM) to find the new cost of equity.
5. Calculate Cost of Debt: Determine the post-tax cost of debt for the combined entity. Remember to deduct tax.
6. Calculate WACC: Use the new cost of equity, post-tax cost of debt, and the market values of equity and debt in the post-acquisition capital structure to calculate the weighted average cost of capital (WACC).