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["Discount Rate Analysis"]
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["Cost of Equity (Ke)"]
[]
["The cost of equity is calculated using the Expanded Capital Asset Pricing Model, with risk premiums for small size and other company specific risks."]
[]
[]
["Ke = Rf + β(Rm - Rf) + αs + αc"]
[]
[]
[null,"Low","High",null,"Description"]
["Risk free rate",2.5000000000000001E-2,2.5000000000000001E-2,null,"The risk free rate is estimated by reference to long term government bond yields. In Australia the Australian Ten Year Government Bond rate is usually applied. Refer to Reserve Bank of Australia statistical table F2 for the current yield on Australian government bonds."]
["Market risk premium (Rm - Rf)",6.5000000000000002E-2,6.5000000000000002E-2,null,"Expected \"additional return\" over the risk free rate for bearing the additional risk of investing in risky assets (businesses). Leadenhall undertakes an analysis of the EMRP implied by market prices on the ASX at least every six months in conjunction with a review of EMRPs applied by other industry practitioners. Our assessment of the EMRP is available on our website under Resources, Articles & Information."]
["Asset beta",0.85,0.9,null,"Beta reflects the riskiness of an asset relative to the market as a whole and represents the risk that cannot be eliminated through diversification. The asset beta is a measure of risk that removes the impact of gearing. To determine a reasonable beta consideration is given to industry and comparable company betas which can be calculated through a regression analysis or review of various information sources such as SIRCA (Australia Only) or S&P CapIQ."]
["Equity beta (β)",{"$f":"B16*(1+(1-B35)*B33/(1-B33))","v":0.99875000000000003},{"$f":"C16*(1+(1-C35)*C33/(1-C33))","v":1.0575000000000001},null,"The equity beta is the asset beta releveraged for the gearing of the specific company being assesses. This is done using the Hamada formula."]
["Standard CAPM Cost of Equity (Post-tax Nominal)",{"$f":"B14+(B17*B15)","v":8.9918749999999992E-2},{"$f":"C14+(C17*C15)","v":9.3737500000000001E-2}]
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["Size premium (αs)",0.01,1.4999999999999999E-2,null,"The size premium is the additional return that investors require for the risks of investing in small businesses. The size premium can be observed in earnings multiples of listed companies, with large companies trading on higher multiples than small companies, all else being equal. There have been limited studies measuring the size premium in Australia, we have included our high level analysis of size premiums in Australia for reference."]
["Specific risk premium (αc)",0,5.0000000000000001E-3,null,"If there is a specific risk difference in the subject company relative to companies from which the market data is drawn, an adjustment to the discount rate may be appropriate. This difference may be due to an element of risk that neither the beta factor nor the size premium fully account for. The 'specific risk' factor could also be negative if it were concluded that the subject company was less risky than the average comparable company."]
["Expanded CAPM Cost of Equity (Post-tax Nominal)",{"$f":"B18+B20+B21","v":9.9918749999999987E-2},{"$f":"C18+C20+C21","v":0.11373750000000001}]
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["Weighted Average Cost of Capital (WACC)"]
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["The WACC represents the rate of return expected for an asset, adjusted for its underlying funding structure, such as relative components of debt and equity."]
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["WACC = [E/V x Ke] + [D/V x Kd x (1-t)]"]
[]
[]
[null,"Low","High"]
["Cost of debt",0.05,0.06,null,"The cost of debt is an estimate of the interest rate required by lenders to the company on the debt funding it has provided. It is related to the size of the business, the level of gearing and the riskiness of lending to the business. Source of information include current actual interest rates applicable to the business, the prevailing indicative lending rates as published by the RBA (statistical tables F3 and F5) and the credit spread on corporate bonds for similar companies.\t\t\t\t\t\t\t\t\t\t\t\t\t\t\t\t\t"]
["Gearing (D / V)",0.2,0.2,null,"D/V represents the proportion of debt in the equity structure. The capital structure used to assess the discount rate should be based on an efficient capital structure, as opposed to actual levels of debt and equity in the business. An analysis of the capital structure of comparable companies and an assessment of available debt based on interest cover are useful sources of information in determining an appropriate capital structure."]
["Gearing (E / V)",{"$f":"1-B33","v":0.8},{"$f":"1-C33","v":0.8},null,"E/V represents the proportion of equity in the capital structure. By definition D/V plus E/V must equal one."]
["Tax rate",0.3,0.3,null,"The corporate tax rate at date of valuation (30% in Australia)."]
["Weighted Average Cost of Capital (Post-tax Nominal)",{"$f":"(B32*B33*(1-B35))+(B34*B22)","v":8.6934999999999998E-2},{"$f":"(C32*C33*(1-C35))+(C34*C22)","v":9.939000000000002E-2}]
[]
["Selected WACC",{"$f":"MROUND(B36,0.005)","v":8.5000000000000006E-2},{"$f":"MROUND(C36,0.005)","v":0.1}]
["Mid-point WACC",{"$f":"AVERAGE(B38:C38)","v":9.2499999999999999E-2}]
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["Implied multiples"]
[]
["The rates shown above can be converted into implied earnings multiples if certain simplifying assumptions are made.  The key assumption is that operating cash flow is simply tax effected EBIT.  This ignores growth capex, investment in working capital and other differences between cash flow and profit.  The implied multiples also rely on the assumptions of a constant growth rate.  These assumptions are often unrealistic, thus this analysis should be approached with caution."]
[]
[]
[]
["Selected growth rate",2.5000000000000001E-2,0.03]
["Implied EBIT multiple",{"$f":"(1-B35)/(B38-B47)","v":11.666666666666664},{"$f":"(1-C35)/(C38-C47)","v":9.9999999999999982}]
["Implied PE multiple",{"$f":"1/(B22-B47)","v":13.347793442896474},{"$f":"1/(C22-C47)","v":11.942080907598148}]
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["Conclusion"]
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["The midpoint WACC shown above is a post-tax nominal WACC as this is the standard methodology for calculating WACC. The selected discount rate should be on the same basis as the cash flows to which it will be applied (e.g. pre-tax real WACC should be applied to pre-tax real cash flows)."]
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[]
["We have calculated the pre-tax nominal WACC below:"]
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["Calculated pre-tax WACC",{"$f":"(B39-B47)/(1-B35)+B47","v":0.12142857142857144}]
[]
["It should be noted that the generally accepted method of calculating a pre-tax WACC is to conduct a DCF analysis using post tax cash flows and a post tax WACC then eliminate tax from the cash flows and derive the implied pre-tax WACC that results in the same value as the initial DCF analysis. The two methods will only equate when a constant growth rate is applied to the cash flows in the DCF analysis."]
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["Contact details"]
["For PPA or general business valuation advice please call your Leadenhall contact:"]
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["http://www.leadenhall.com.au/leadenhall-team/"]

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["Size Premium"]
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["Introduction"]
["The size premium is the additional return that investors require for the risks of investing in small businesses. To date it has not been possible to isolate the specific causes of size premiums (other than simply size), many factors have been suggested including:"]
[]
[]
["¨","Depth of management",null,null,"¨","Reliance on key suppliers"]
["¨","Reliance on key personnel",null,null,"¨","Lack of geographic diversification"]
["¨","Weak market position",null,null,"¨","Limited access to technology"]
["¨","Reliance on key customers",null,null,"¨","Absence of broker analysis"]
["¨","Reduced access to capital",null,null,"¨","Supplier concentration"]
["¨","Deeper pool of investors for larger companies",null,null,"¨","Investors in large companies often more diversified"]
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["The size premium can be observed in earnings multiples of listed companies, with large companies trading on higher multiples than small companies, all else being equal. Size premiums are observed consistently across time, across different markets and across a very wide range of company values."]
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["Measurement"]
["A number of studies have been undertaken attempting to measure the size premium, in particular in the US.  The Valuation Handbook published by Duff & Phelps contains calculations of the size premium for each decile of market capitalisation.  As the size premium is most significant for very small companies, the tenth decile is then further divided into four equal segments.  The following table summarises the size premium data from the 2015 Valuation Handbook."]
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["Size Premium"]
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["Decile",null,null,null,null,"Mkt Cap Range (US$m)",null,"Size \nPremium"]
[null,null,null,null,null,"Low","High"]
[]
["1 (Largest)",null,null,null,null,24429,591016,-3.5999999999999999E-3]
[2,null,null,null,null,10171,24273,6.3E-3]
[3,null,null,null,null,5864,10106,9.1000000000000004E-3]
[4,null,null,null,null,3723,5845,1.06E-2]
[5,null,null,null,null,2552,3724,1.6E-2]
[6,null,null,null,null,1689,2543,1.7399999999999999E-2]
[7,null,null,null,null,1011,1687,1.7100000000000001E-2]
[8,null,null,null,null,549,1011,2.1499999999999998E-2]
[9,null,null,null,null,301,549,2.69E-2]
["10w",null,null,null,null,232,301,3.1800000000000002E-2]
["10x",null,null,null,null,191,232,5.5399999999999998E-2]
["10y",null,null,null,null,116,191,7.51E-2]
["10z (Smallest)",null,null,null,null,3,116,0.1198]
[]
["Source: Duff & Phelps 2015 Valuation Handbook"]
["Notes:"]
["1. Measured over the period from January 1926 to December 2013"]
["2. Size premium compared to return predicted by CAPM"]
["3. Market capitalisation as at 31 December 2013"]
["4. Risk free rate used in this analysis is the yield on 20 year US government bonds"]
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["Australian Data"]
["There have been a number of studies in Australia demonstrating the existence of the size premium, including"]
["¨","NERA Economic Consulting (2012)"]
["¨","Brailsford, Gaunt and O'Brien (2012)"]
["¨","Cheong and Steinert (2007)"]
[]
["While these studies have all found support for the existence of a size premium, we are not aware of any studies performed with the frequency or depth of the US study referred to above. It is thus somewhat subjective what premiums should be applied in Australia.  Based on the evidence from US studies and our knowledge of prices actually paid in Australian transactions (from which a discount rate can be implied) we believe the following size premium ranges are generally appropriate.\n"]
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["Size Premium Guide for Australia"]
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["Size",null,null,null,null,"Mkt Cap Range (AU$m)",null,"Size Premium"]
[null,null,null,null,null,"Low","High","Low","High"]
[]
["Largest",null,null,null,null,4000,"Above"," - "," - "]
["Large ",null,null,null,null,1000,4000," - ",0.01]
["Mid-cap ",null,null,null,null,300,1000,0.01,0.02]
["Low-cap ",null,null,null,null,100,300,0.02,0.03]
["Small-cap",null,null,null,null,50,100,0.03,0.05]
["Micro-cap ",null,null,null,null,10,50,0.05,0.08]
["Medium private1",null,null,null,null,5,10,0.08,0.11]
["Small private1",null,null,null,null,2,5,0.11,0.15]
["Smallest1 ",null,null,null,null," - ",2,0.15,0.2]
[]
["Note: We do not generally consider the CAPM model to be reliable for entities of this size as they often do not meet the background assumptions underpinning the CAPM.  In particular investors are often not diversified and it is rarely possible to lend or borrow stock of entities this size.  These suggested size premiums are therefore presented as an approximate guide only as alternate models, studies and rules of thumb are commonly utilised for these types of companies."]
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[]
[]
["Given the subjectivity regarding the size premium in Australia, the table above should be treated as an indication, and not an exact guide to the extent of any particular discount or premium that should be applied."]