Simple Valuation Methods: Franchise Value Approach

Alpha-Beta IR Analytics, Equity Research Series, 2018

9 Pages Posted: 13 Mar 2019

See all articles by Kaloyan Petkov

Kaloyan Petkov

D. A. Tsenov Academy of Economics; ABIR Analytics

Plamen Patev

I Shou University, Department of International Finance; ABIR Analytics

Date Written: April 5, 2018

Abstract

Models based on economic profit divide the value of the company to “base value” and “added value”. Best-known economic profit models are EVA and Residual income (RIM). Based on them a franchise value approach has been developed.

The franchise value model makes two main adjustments: First is with the base value. For other models, the base value of the company is some balance sheet figure. Franchise value approach takes into account not the balance sheet, but rather the earning power of the company. Tangible value of the company is introduced and is equal to the present value of current EPS repeated in the future. It is more reasonable to see the base value as a function of the earnings rather some balance sheet figure. The second major innovation is the separation of the growth model from the performance evaluation. While in most valuation models for growth estimation is used GGM that is implemented in the terminal value, here growth separated in “Growth factor”. This creates interesting inter-model dynamics that will be discussed in detail.

According to the approach, the firm value consist of two main elements:

- Tangible value. It present the ability of the company to create earnings;
- Franchise Value. It involves two parts. First, the Franchise factor. It gives information about the relative performance of company against the market expectations. Second, the Growth factor. It should be noted that this is the only model that separates the growth from the performance. There are two approaches to finding the necessary characteristics of the random process, one is to confine g to vary randomly in the borders of E(GDP growth) +/- Inflation). The other is to extract the characteristics from the historical observations.

Biggest advantage of Franchise value approach are the required inputs. With the separation of the growth factor, rest of the model needs only current data without burdensome forecasting that usually brings heavy assumptions. This brings the valuation closer to the present state of the business. In our paper we demonstrate the application of the model to a real company - Delta Electronics, Inc.

Keywords: Equity Value, Franchise Value, ROE, Cost of Capital

JEL Classification: G11, G30

Suggested Citation

Petkov, Kaloyan and Petkov, Kaloyan and Patev, Plamen, Simple Valuation Methods: Franchise Value Approach (April 5, 2018). Alpha-Beta IR Analytics, Equity Research Series, 2018, Available at SSRN: https://ssrn.com/abstract=3339774 or http://dx.doi.org/10.2139/ssrn.3339774

D. A. Tsenov Academy of Economics ( email )

2 Em. Chakarov str.
Svishtov, Veliko Tarnovo 5250
Bulgaria

Plamen Patev

I Shou University, Department of International Finance ( email )

No.1, Sec. 1, Syuecheng Rd., Dashu District,
Kaohsiung, 84001
Taiwan

ABIR Analytics ( email )

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