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Sum of the Parts

By Mark Perkins on Sat, 2007-03-10 01:10

I'm interested in finding value in holding companies that contain other companies, like GE MMM etc. to see if the value of the divisions combined is worth more than the companies going share price. I've heard of using EV/ebit multiples and maybe comparing the individual divisions to other companies in the same industry to see if the sum of the parts is worth more than the whole company's price.

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snash02 on Fri, 2007-03-30 15:13
Title: Valuing parts of the whole

Hello Mr Wallstreet:
The following link discusses your issue: http://www.casact.org/admissions/syllabus/ch10.pdf It deals with the insurance industry but you may find it of interest regarding other types of companies. The link attribution is : Gorvett, R.W.; Tedeschi, J.L.; and Ward, K.A., "Special Issues-Data Sources," Foundations of Casualty Actuarial Science (Fourth Edition), Casualty Actuarial Society, 2001, Chapter 10, pp. 723-807.

Chapter 10 provides a lot of technical details that are interesting but the discussion of the ratio of Market Value to Book Value, for me, was particularly helpful. The following is quoted from page 727 of the work cited above.

"Market Value: If a financial entity or instrument is actively traded, a possible basis for valuation is the price at which it is bought and sold. The market value of a publicly traded insurer is calculated by multiplying the number of outstanding shares of stock of the company by its current stock price. This represents the company value as interpreted by the capital markets. For nonpublicly traded companies, or for insurers that are owned by large publicly traded companies, this process cannot be done directly. It is possible that an indirect method could be used, for example by applying a market value to book value ratio from a “comparable” stock insurer. Since the stock price represents the capital market's assessment of the firm as a whole, using the stock price can, in theory, provide an indication of the franchise value of the firm. The franchise value includes certain aspects of an insurer that are difficult to quantify, such as reputation, goodwill, and the value of the existing book of business."

The author also comments that other valuation methods "can often produce significantly different surplus values. The relationships between the values depend upon a company's specific asset distribution, the type of insurance the company is engaged in, general financial and economic conditions, and a variety of other factors."

Hope this helps.

Regards
snash02

Mark Perkins on Sat, 2007-03-31 21:24
Title: thanks for this

thanks for this