Almirall, Grifols and Zeltia – How much are you willing to pay for their future growth?
Every company has two types of assets that creates value –1. Existing assets 2. Growth assets. For many matured companies such as Merck (NYSE: MRK),most of the value comes from the existing assets i.e. existing products, brands etc.
For many small biotech companies, value is generated from growth assets i.e. assets (products expected to be blockbusters, innovative technologies etc) that are going to create value in the future. For these companies, we pay for hope and expectations.
A company generating lot of value from existing assets has two choices:
- Reinvest all or certain portion of their earnings for future growth
- Pay all its earnings to shareholders and debt-holders
In order to understand, how much price we are paying for growth,we decided to explore these three Spanish companies: Almirall (IBEX:ALM),Grifols (NASDAQ: GRFS) and Zeltia (IBEX: ZEL)
Let us assume that all these companies decide to go for no growth policy and hence this implies they would pay all their earnings to their lenders and shareholders and that earnings would be their cash flows in perpetuity. In that case, the value of their existing assets would be equal to After tax operating income / cost of capital. We then match the value of existing assets with the Enterprise value (EV = Market value of Equity and Debt – Cash) as of today and calculate how much price we are willing to pay for the growth.
The following table shows the calculation:
|Operating Income||22,293,000 €||51,200,000€||800,911,000€|
|Marginal tax rate (30%)||6,687,900€||15,360,000€||240,273,300€|
|After tax Operating Income||15,605,100€||35,840,000€||560,637,700€|
|Industry cost of capital||9.16%||8.21%||9.16%|
|Value of Existing assets||170,361,353.71€||436,540,803.9€||6,120,498,908.3€|
|Price we pay for growth||613,294,309.12€||2,479,988,493.08€||21,209,501,091.7€|
|% price for growth||78.26%||85.03%||77.61%|
What do we conclude from this table?
For Zeltia and Grifols, 78% of the price is paid for expected future growth where as for Almirall 85% of the price comes from future expectations.
The next question would be – how valuable are the growth of these companies? We take that in our next post
Cost of capital: http://pages.stern.nyu.edu/~adamodar/. We decided to use Industry cost of capital than the company specific hurdle rates as we are assuming that company is in mature state and would have cash flows in perpetuity with no growth
Enterprise Value (EV): Calculated as of today 4-02-2015. For Grifols, data taken from http://finance.yahoo.com/q/ks?s=GRFS Key Statistics
Operating Income: Trailing 12 months data.
Marginal Tax rate of 30% : http://www.kpmg.com/global/en/services/tax/tax-tools-and-resources/pages/corporate-tax-rates-table.aspx