Sources of Value A Practical Guide to the Art and Science of Valuation 1st Edition by Simon Woolley 0521519076 9780521519076

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ISBN 10:  0521519076 

ISBN 13: 9780521519076

Author:   Simon Woolley 

Sources of Value is a comprehensive guide to financial decision making suitable for beginners as well as experienced practitioners. It treats financial decision making as both an art and a science and proposes a comprehensive approach through which companies can maximise their value. Beginners will benefit from its initial financial foundation section which builds strong basic skills. Practitioners will enjoy the new insights which the eponymous Sources of Value technique offers – where values come from and why some companies can expect to create it while others cannot. The book also introduces several other techniques which, together, spell out how to combine strategy with valuation and an understanding of accounts to make a fundamental improvement in the quality of corporate financial decision taking. Sources of Value is written in a readable conversational style and will appeal to those already working in companies as well as those studying on a business course.

Sources of Value A Practical Guide to the Art and Science of Valuation 1st Table of contents:

Section I The five financial building blocks
CHAPTER 1 Building block 1: Economic value
Summary
Part 1: The basic question
The time value of money
Quantifying the time value of money
The concept of value
Using value to take decisions
Taking stock and defining some terms
Part 2: Calculating present values
Introducing the idea of discount factors
Introducing annuity factors
Introducing the concept of net present value
NPV and project evaluation
Real life project evaluation
Part 3: Practical examples
Example 1: Uncle Normans birthday treat
Example 2: A grand design
Example 3: Paving the way to the future
Part 4: Individual work assignments
CHAPTER 2 Building block 2: Financial markets
Summary
Part 1: Debt an initial overview
How to value debt
Fixed or floating rate
Long term or short term
Interest rates and inflation
Interest rates and exchange rates
How lenders minimise risk
Credit rating agencies
Two advantages of debt over equity
Conclusion
Part 2: Equity an initial overview
The value of equity
The relationship between dividends and funds flow
Do dividends matter
Issuing new shares
Conclusion
Part 3: Introducing the cost of capital
The capital asset pricing model
Risk is carried on equity
The Modigliani Miller proposition
The indivisible finance pool
Precondition 1: What if money is limited
Precondition 2: What if risks are too great
Estimating the cost of capital
Conclusions
Part 4: Individual work assignments
CHAPTER 3 Building block 3: Understanding accounts
Summary
Part 1: The purpose of accounting
How ‘well’ is a business doing
What does a business own and what does it owe?
How much cash is being generated
Dealing with assets that are not wholly owned
Dealing with forex effects
Part 2: The abbreviated financial summary
Distinguish between investing and financing
Introducing the abbreviated financial summary
Adding more detail to the income statement
Include one key financial ratio
Why do it this way
Part 3: Practical examples
How the accounting numbers interact
Simple calculations
Fixed assets and amortisation
Accounts receivable
Accounts payable
Inventories
Effect of inflation on working capital
Stripping out financing charges
Effect of making a payment in advance
Scaffolding example
Real life example Corus PLC
Part 4: Individual work assignments
CHAPTER 4 Building block 4: Planning and control
Summary
Part 1: The main components
Strategy
Long-term plan
Annual plan
Performance reports
Accounting results
Controls
Initiatives
Nomenclature
Part 2: The main concepts
The planning cycle
Top-down and bottom-up
WYMIWYG
Setting appropriate targets
Stage gate processes
Cost control and risk management
The growth ‘imperative’
Part 3: Key planning techniques
The value chain model
Primary activities
Support activities
The five forces model
Competitive advantage
The McKinsey/GE matrix
Part 4: Words and music
Introduction
The company as a series of projects
Overheads and sunk costs
The ROCE bridge
Valuing a plan
Present value and value through time
In a plan value growth does not really matter. What matters is present value
Part 5: Individual work assignments
CHAPTER 5 Building block 5: Risk
Summary
Part 1: Techniques and terminology
What sets market price?
Probability distributions
Cumulative probability curves
Doing calculations with expected values
Decision trees
Success values
Making appropriate assumptions
Sensitivities
Part 2: Portfolio effects
Spreading your bets
The effect of correlations
The ability to take risk
The effect of transaction costs
The risk/reward trade off
Part 3: Monetising risk
‘Risk is impact times probability’
Managing risks
The U-shaped valley
Part 4: Categorising risk
Financial risks and operational risks
Internal and external risks
Company checklists
Three types of risks
Part 5: Individual work assignments
Section II The three pillars of financial analysis
CHAPTER 6 Overview
Where have we got to so far?
Where next?
The three pillars
CHAPTER 7 The first pillar: Modelling economic value
Summary
Part 1: Model design
Initial analysis: what sort of model is needed?
Incremental and absolute NPVs
What is the purpose of an economic model?
Three spreadsheets or one?
Spreadsheet layout
Model audit
Part 2: Case optimisation
The aim of evaluation
The danger of excess optimisation
Managing the optimisation effort
Case study: Selecting optimisation studies
Summary: Optimising our optimisation efforts
Part 3: Sustaining investments
What is sustaining investment?
Justifying sustaining investment
The need to control sustaining investment
Dealing with changes in legislation
Part 4: Fullcycle economics
Introduction Defining full-cycle economics
Why consider full-cycle economics?
Defining sunk costs
Defining future fixed but non-incremental costs
Calculating full-cycle economics
Interpreting full-cycle economics
Summary: How important are full-cycle economics
Part 5: Inflation and forex effects
Inflation impacts on everything and usually ‘hurts’ a project
Inflation and the cost of capital
Modelling specific prices
Modelling when inflation is high
How tax and working capital make inflation ‘hurt’
Inflation and ‘stock profits’
Inflation and forex effects
Part 6: Project life and other modelling issues
Project life
Residual and terminal values
Additional complications with joint ventures
Monte Carlo analysis
Part 7: Modelling financed cases
Introduction
Putting finance into a model
Case study: Yellow Moon Chemical Company Inc
Part 8: Suggested standard methodology
Why a standard methodology is required
Suggested standard economic evaluation methodology
1. Applicability
2. Incremental analysis
3. The stated assumptions
4. Cash flow model
5. Cost of capital
6. The four economic indicators
7. Sensitivity analysis
8. Sources of Value analysis
CHAPTER 8 The second pillar Sources of Value
Introduction
Part 1: What is the Sources of Value technique?
Part 2: Why the Sources of Value technique works
Supporting link 1: The principle of additivity of value
Supporting link 2: Economic value underpins the share price
Supporting link 3: The ROCE bridge and actual returns
Supporting link 4: Sector attractiveness and competitive position
Supporting link 5: Cost curves and what sets prices
Supporting link 6: How markets evolve over time
Supporting link 7: Pointforward and fullcycle economics
Supporting link 8: Governments and regulators
Part 3: How to apply the Sources of Value technique
Initial case study: Sources of Value and the scaffolding project
Sources of Value: Implementation map
Implementing Sources of Value at the strategy stage
Strategy stage analysis sector attractiveness
Strategy stage analysis: competitive position
Strategy stage analysis: strategic options identification
Strategy stage analysis: strategy selection
Implementing Sources of Value at the options identification stage
Option 1
Option 2
Option 3
Option 4
Implementing Sources of Value at the detailed design stage
Implementing Sources of Value at the implementation stage
Implementing Sources of Value at the operation stage
Getting started with Sources of Value
Part 4: So what!: The implications of the Sources of Value technique
The Sources of Value philosophy
Strategic implication 1: How to win
Strategic implication 2: Look downwards
Strategic implication 3: Can you buy success?
Strategic implication 4: Having ‘quality’ investment decision debates
Strategic implication 5: How to understand governments
Strategic implication 6: Don’t go out alone!
Strategic implication 7: Don’t be ‘me too’
A final look at Sources of Value
CHAPTER 9 The third pillar: What sets the share price?
Summary
Part 1: The theory
The basic principle value = present value of future dividends
Problem number 1: The relationship between cash flow and dividends
Problem number 2: Prices are set in the market
Problem number 3: Uncertainty
Problem number 4: I know a professor with a better idea!
Part 2: Calculating value
Overview
Step 1: Calculating plan period asset value
Step 2: Calculating the present value of the terminal value
Step 3: Assess the value of any liabilities
Step 4: Divide the net value by the number of shares
Short cut approaches
ABCDE valuation
And finally?
Part 3: The implications
Understanding performance
Continuous good surprises
Focus on value
CHAPTER 10 Conclusion
Where next?
Section III Three views of deeper and broader skills
CHAPTER 11 First view: The cost of capital
Introduction
Part 1: The theory and practice of setting the cost of capital
The economic value model
Estimating the components of the cost of capital
Estimating the cost of capital
The cost of capital for a project
Alternative approaches to setting the cost of capital
Conclusions: The choices to be made concerning the cost of capital
Part 2: The implications of our cost of capital theory
Overview
Topic 1: An overall approach to risk and reward
Topic 2: Treating financing separately
Topic 3: Understanding competitors costs of capital
Topic 4: Buying and selling
Topic 5: Optimisation
Topic 6: Risk archetypes and risk sensitivities
Topic 7: Fudge factors
Topic 8: Pre- or post-tax?
Topic 9: Country risk
Topic 10: A cottage industry
Conclusions: What the cost of capital can tell us about risk and reward
CHAPTER 12 Second view Valuing flexibility
Introduction
Part 1: Why flexibility matters
Initial example: The value of flexibility
Where flexibility may affect value
Initial conclusions
Part 2: Financial options
Introduction: The characteristics and terminology of options
Valuing financial options
Can financial option valuation methods be used to value flexibility in projects?
Part 3: The flexibility valuation toolkit
Introduction: So what should be done about flexibility?
Step 1: Life is not a single path into the future
Step 2: Recognise when flexibility matters
Step 3: Understand the types of flexibility
Step 4: Clarify objectives and boundaries
Step 5: Prepare first guess of the likely path
Step 6: Identify the important uncertainties and decisions and map them onto the path
Step 7: Decide whether flexibilities need to be valued
Step 8: Apply appropriate tool from the toolkit to value the flexibility
Step 8A: More sophisticated assumptions
Step 8B: Risk monetisation
Step 8C: Growth value
Step 8D: Valuing the tail
Step 8E: Monte Carlo simulation
Step 8F: Simple decision trees
Step 8G: Reverse engineering
Step 8H: Black-Scholes
Step 8I: Analogy
Step 8J: Include any additional costs
Step 9: Ensure that organisation is equipped to capture flexibility value in the future
Step 10: Monitor results to facilitate Plan Do, Measure Learn approach
Conclusions: Flexibility is important but flexibility valuation is less so
CHAPTER 13 Third view When value is not the objective
Introduction: Why study this question and how it will be covered
Part 1: The nonvalue sector
Part 2: Similarities – the planning infrastructure
Part 3: Objectives
Part 4: Availability of finance
Part 5: Attitude to risk
Part 6: The acceptability of continuous improvement
Part 7: Valuing non-financial items
Part 8: The overall scorecard
CHAPTER 14 Overall conclusions
Appendices Individual work assignments: Suggested answers
APPENDIX I Building block 1: Economic value
APPENDIX II Building block 2: Financial markets
APPENDIX III Building block 3: Understanding accounts
APPENDIX IV Building block 4: Planning and control
APPENDIX V Building block 5: Risk

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