us watch_us watch 15/08/2014 16:34 Page 1
Bursting bubbles
Larry Gerbrandt casts his mind back 14 years to the
dotcom bubble, and suggests that the intervening years
have taught the industry valuable lessons in how interest
rates drive valuation multiples.
ven
functionally
VALUATION MULTIPLE 2014 VS. 2000
though the
equivalent to a
memory is
cash flow multiple
2000
2014
now more than
and there are only
Riskless Rate
6.12%
3.02%
14 years old, I
two variables, the
Equity Risk Premium
7.17%
5.00%
can recall it with
discount rate and
Mid-Cap Size Premium
0.50%
1.12%
painful clarity. It
the long-term
Industry Risk Premium*
0.85%
1.15%
was April 2000,
growth rate for the
Subtotal = Cost of Equity
14.64%
10.29%
and I was sitting
asset (see formula
Long-Term Growth Rate
4.00%
4.00%
on a dais in a
in box). Long-term
Valuation Multiple#
9.40
x 15.90 x
New York City
or perpetual cash
* Cable & Pay TV sector
hotel moderating
flow growth rates
# Multiple = 1/(Cost of Equity-LT Growth Rate)
a panel at a
of 3%-5% are
Kagan World Media
they have come to dominate
common, with 4% being the
seminar. The subject was
their respective market
normalised rate currently
new media technologies and
segments.
recommended by Duff & Phelps.
the Internet market bubble
But the economic
The appropriate discount rate
was beginning to burst.
environment is much different
can be a complicated calculation
The NASDAQ had closed at
in 2014 than in was in 2000 in
that can take into account a
5048.62 on 10 March, but by
ways that may account for a very
range of risk factors and a
mid April it had shed more than
significant portion of the rise in
company’s specific capital
1,000 points. On 14 April it
corporate value that have little
structure. For my analysis and in
dropped another 355 points to
to do with either technology or
the interest of simplicity, I’ve
close at 3321. One of the
market leadership. The
assumed an unlevered asset
attendees, sitting in the front
benchmarks in this analysis are
base. The biggest differences
row, had what was then a
all US-based, but the valuation
between 2000 and 2014 have
leading-edge mobile phone that
methodology is market agnostic.
been the dramatic fall in the
could retrieve brief news and
A reader warning is appropriate
'riskless rate', with the 20-year
stock updates and I watched his
here because I’m going to dip
US T-bill yield being the most
face turn white as he witnessed
into the murky and scary waters
commonly used benchmark (in
the markets crash.
of valuation theory and those
Europe the yield on the
The NASDAQ index
with allergies to such things may
equivalent German government
eventually bottomed out at 1268
become increasingly
bonds are often used). The other
on March 9 2009 as the world
uncomfortable, though I will
significant change has been the
struggled to recover from postendeavour to keep to a 15,000
decline in the 'equity risk
Lehman Bros. financial
meter perspective.
premium'. The details of how
meltdown, but has since risen
In most valuations, especially
this is calculated are beyond the
within sight of the 2000 peak,
those of relatively new
scope of an overview column but
closing as high as 4472 on 7 July
companies, the bulk of the value
2014. There are a lot of reasons
is tied up in the future, beyond a
Larry Gerbrandt
for the rebound in the NASDAQ,
five-year horizon. This is known
not the least of which is that
as the 'terminal' or 'residual'
[email protected]
many of the companies that
value and can often comprise
has been a media analyst
comprised the average in 2000
80% or more of a company