9 Valuation Methodologies
9.2 Multiple Valuation
As we have seen in the previous section, the DCF valuation model relies heavily on several assumptions and is very sensitive to the underlying levers in the analyses that precede them.
Small changes in the assumptions made in the DCF model can lead to significant variations in the predicted share price.
Therefore, in order to validate the result obtained in the DCF valuation and to strengthen the forecasted value range of Lufthansa, a multiple valuation (also called relative valuation method)
is performed in the following section. “There is a significant philosophical difference between discounted cash flow and relative valuation. In discounted cash flow valuation, we are attempting to estimate the intrinsic value of an asset based upon its capacity to generate cash flows in the future. In relative valuation, we are making a judgment on how much an asset is worth by looking at what the market is paying for similar assets” (Viebig, et al., 2008, p. 361).
Multiple valuations are quick, simple, and intuitive as they are subject to fewer assumptions.
Furthermore, multiples are “much more likely to reflect the current mood of the market, since it is an attempt to measure relative and not intrinsic value” (Damodaran, 2012, p. 637).
However, multiples also come at some disadvantages. A multiple captures a company’s value at a certain point in time and is only a single number aggregating several value drivers, which makes it difficult to identify single drivers of a company’s (market) value. Furthermore, in a multiple valuation a company’s market value is estimated relative to comparative firms’ market values (peer group method (Suozzo, et al., 2001)). However, this is based on the assumption that the market has correctly valued the comparable companies (Georg, 2017).
According to Damodaran (2012) and Koller, et al. (2010), comparable companies must be similar in the fundamentals that drive the multiple, such as business environment, profitability, growth rates, and risk. For this reason, multiples for Lufthansa are based on their peers identified in Section 4, namely Air France - KLM, IAG, easyJet, Ryanair, and SAS. The comparable companies’ key financials are presented below and are taken from the analytical financial statements in Appendix 2 and 3, and the respective annual reports. All companies prepare their annual reports in accordance with International Financial Reporting Standards (IFRS) as adopted by the EU, so no further adjustments have to be made. However, as SAS’
and easyJet’s financial statements are presented in Swedish Krona (SEK) and British Pound (GBP), these items are translated into Euro by using an FX rate of 9.72937 SEK/EUR as of October 31st, 2017 (reporting date SAS) and 1.12553 EUR/GBP as of December 31st, 2017 (xe.com):
31. December 2017 Air France-KLM
IAG easyJet Ryanair (March 2017)
SAS (October 2017) Shares Outstanding (million) 300 2,058 397 1,207 330
Share Price 13.58 7.34 16.50 14.53 2.66
Market Capitalization (EUR
million) 4,077 15,100 6,554 17,537 878
Net Interest Bearing Debt
(EUR million) 14,146 9,768 945 964 3,198
Enterprise Value (EUR
million) 18,223 24,868 7,499 18,501 4,075
Revenue (EUR million) 25,784 22,972 5,688 6,648 4,377 EBITDAR (EUR million) 4,352 4,799 799 2,118 712
EBIT (EUR million) 1,954 2,995 757 1,569 356
NOPAT 1,088 2,428 589 1,405 237
Earnings per Share (EPS, in
EUR) 2.65 0.96 0.87 1.05 0.25
Net Income (EUR million) 797 2,021 344 1,316 118 Book Value of Equity (EUR
million) 3,015 7,396 3,158 4,423 827
Table 53 - Multiple Valuation Input Parameters from Lufthansa’s Peers
In 2017, Air France-KLM had Other Non-Current Income and Expenses of EUR -1,925 million, mostly due to modifications in pension plans in the Netherlands (EUR -1,889 million (Air France-KLM Annual Report, 2017)). As this significantly decreased the company’s EBIT, NOPAT, and Net Income, we added back the position to EBIT and applied the respective tax rate to derive at NOPAT and Net Income. This was done in order to disregard the non-recurring item, smooth out the income positions and arrive at the correct multiples for the company.
Multiples can be divided into Equity Value and Enterprise Value multiples. According to Petersen & Plenborg (2012), Enterprise Value (EV) multiples include EV/Revenue, EV/EBIT, EV/EBITDA, and EV/NOPAT, while Equity-based multiples are the Price-to-Earnings Ratio (P/E), and Market-to-Book-Value (M/B). One industry specific multiple is EV/EBITDAR, which is used when there are significant rental and lease expenses incurred in business operations (Massari, et al., 2014), as it is the case with the airlines’ leases of aircrafts.
Enterprise Value is then defined as (Petersen & Plenborg, 2012):
𝐸𝑛𝑡𝑒𝑟𝑝𝑟𝑖𝑠𝑒 𝑉𝑎𝑙𝑢𝑒 = 𝑀𝑎𝑟𝑘𝑒𝑡 𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑎𝑡𝑖𝑜𝑛 + 𝑁𝑒𝑡 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝐵𝑒𝑎𝑟𝑖𝑛𝑔 𝐷𝑒𝑏𝑡 Where
𝑀𝑎𝑟𝑘𝑒𝑡 𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑎𝑡𝑖𝑜𝑛 = 𝑆ℎ𝑎𝑟𝑒𝑠 𝑂𝑢𝑡𝑠𝑡𝑎𝑛𝑑𝑖𝑛𝑔 × 𝑆ℎ𝑎𝑟𝑒 𝑃𝑟𝑖𝑐𝑒
Koller, et al. (2005, pp. 9 - 10) point out that it is important to not only rely on enterprise multiples, because “they are systematically affected by capital structure [and] include many nonoperating items, such as restructuring charges and write-offs”. Therefore, we include both equity and enterprise multiples in our analysis, and normalize earnings whenever a non-recurring or non-operating item might be present.
Based on the collected data, the following Enterprise Value and Equity-based multiples have been calculated by applying the formulas stated in Table 54:
Enterprise Value Multiples Equity Based Multiples
Formula EV /
Revenue
EV / EBITDAR
EV / EBIT
EV / NOPAT
Market Price per Share / EPS
Market Cap. / Book Value of Equity Air France-KLM 0.71 4.19 9.33 16.75 5.12 1.35
IAG 1.08 5.18 8.30 10.24 7.64 2.04
easyJet 1.32 9.38 9.90 12.72 18.91 2.08
Ryanair 2.78 8.74 11.79 13.17 13.80 3.96
SAS 0.93 5.72 11.44 17.18 10.70 1.06
Table 54 - Enterprise Value Multiples and Equity Based Multiples from Lufthansa's Peers
The multiples’ medians and arithmetic means are listed below, together with maximum and minimum values, which indicate the range within which we might expect the multiples of Lufthansa to be.
Enterprise Value Multiples Equity Based Multiples Summary Statistic Revenue EBITDAR EBIT NOPAT Price /
Earnings
Market / Book
High 2.78 9.38 11.79 17.18 18.91 3.96
Median 1.08 5.72 9.90 13.17 10.70 2.04
Mean 1.36 6.64 10.15 14.01 11.23 2.10
Low 0.71 4.19 8.30 10.24 5.12 1.06
Table 55 - Summary Statistic for Enterprise Value Multiples and Equity Based Multiples
As a last step, the multiples can be applied on the respective Lufthansa data, to derive a relative value for Lufthansa. Input data and summary statistics for the multiple valuations as well as the according share prices for Lufthansa are shown in Tables 56 and 57.
Enterprise Values Based on Enterprise Value Multiples
Equity Values Based on Equity
Value Multiples Summary Statistic Revenue EBITDAR EBIT NOPAT Price /
Earnings Market / Book Lufthansa Data 37,961 5,293 3,189 2,400 5.03 9,598 Valuation
High 105,642 49,669 37,593 41,228 44,840 38,055 Median 41,095 30,286 31,573 31,603 25,372 19,596 Mean 51,791 35,156 32,374 33,628 26,634 20,146
Low 26,829 22,163 26,479 24,582 12,127 10,183
Table 56 - Calculation of Enterprise Value and Equity Value Based on Multiples
Enterprise Value Multiples Equity Based Multiples Summary Statistic Revenue EBITDAR EBIT NOPAT Price /
Earnings Market / Book Lufthansa Net
Interest Bearing
Debt (EUR million) 9,416 9,416 9,416 9,416 Not relevant
Not relevant Shares Outstanding
(thousand) 471 471 471 471 471 471
Valuation
High (EUR) 204.17 85.41 59.79 67.50 95.14 80.75 Median (EUR) 67.22 44.28 47.01 47.08 53.83 41.58 Mean (EUR) 89.91 54.62 48.71 51.37 56.51 42.75 Low (EUR) 36.95 27.05 36.20 32.18 25.73 21.61
Table 57 - Share Price Calculation Based on Enterprise and Equity Based Multiples
“A higher multiple is usually attributed to younger, high growth companies whereas a lower multiple can be attributed to a mature, slow growth or negative growth company” (Lin, n.d., p.
2). This is in line with the observation that Ryanair and easyJet, two companies which showed the largest growth over the last years, have the highest multiples of all peers. It can also be seen that the multiples for all peers vary significantly, leading to very different outcomes for Lufthansa’s equity value and share price based on those multiples. The share price of EUR 27.13 predicted by the DCF model in Section 9.1 lies at the lower end of the multiples’
valuation, meaning that Lufthansa’s share price seems to be somewhat undervalued compared to the ones of its peers. It is reasonable to classify Lufthansa at the lower end, because the company’s business model and growth rate are expected to be rather similar to the ones from other flag carriers like Air France-KLM and SAS, instead of Low Cost Carriers like Ryanair and easyJet, which showed higher multiples. However, this also supports Lufthansa’s strong results in 2017 and indicates an upward potential in its share price.
Of the various multiples available, Enterprise Value to EBITDAR is recognized as the most significant, since it used as an approximation for cash flows, which is the parameter of interest to investors, and since is not subject to differences in depreciation methods (Trunk, 2010).