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CPV Asset Valuation Practice II study materials
CPV Asset Valuation Practice II study resources

CPV Asset Valuation Practice II: Business Valuation: Approach Discipline and Rate Matching

CPV Asset Valuation Practice II · Work through your exam, one topic at a time.

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Business Valuation: Approach Discipline and Rate Matching

Business Valuation tests how you turn a company’s earnings, cash flow, or assets into a defensible opinion of value. The exam stresses approach selection, discount-rate construction, and the need to match the cash flow to the rate. Most lost marks come from a technically correct formula applied to the wrong cash flow.

Core rules

  • Income approach: DCF and direct capitalization. FCFF is discounted at WACC; FCFE at cost of equity. Terminal value uses either Gordon growth or an exit multiple, and the growth rate must sit below long-run nominal growth.
  • Market approach: guideline public companies, guideline transactions, and M&A method. Multiples must be applied to the same metric used to derive them: EV/EBITDA to EBITDA, EV/EBIT to EBIT, P/E to net income.
  • Asset approach: adjusted book value suits asset-heavy or holding companies; liquidation value is used only when the appraisal premise supports it.
  • Bridge to equity: subtract debt, add cash and non-operating assets, and apply control or marketability adjustments only when the interest and evidence justify them.
  • Normalization: adjust owner compensation, related-party rents, non-recurring items, and excess working capital before capitalizing.

Worked example

A company projects FCFF of $5.0 million next year, growing 3% thereafter; WACC is 11%. Terminal value at the end of year 1 is (5.0 × 1.03) ÷ (0.11 − 0.03) = $64.38 million. Its present value is 64.38 ÷ 1.11 = $58.0 million. Add the present value of year-1 FCFF, $4.50 million, for an enterprise value of $62.5 million. With $10 million debt and $2 million cash, equity value is $54.5 million. Because FCFF is after-tax and WACC is after-tax, the rate and cash flow are consistent.

Traps that cost marks

  • Discounting pre-tax cash flow at an after-tax WACC.
  • Using EBITDA for a capital-intensive business without deducting capex and working capital.
  • Setting terminal growth at or above WACC.
  • Applying a DLOM to a controlling, marketable interest.
  • Double-counting the same risk in both projected cash flow and the discount rate.
  • Using a guideline-company multiple without adjusting for size, growth, or margins.