Last updated on 2024年9月22日

What are the best practices for applying the market approach to control premium analysis?

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The market approach is a common method of business valuation that uses comparable transactions or multiples to estimate the value of a company. However, when applying the market approach to control premium analysis, you need to consider some best practices to ensure accuracy and reliability. A control premium is the amount that a buyer is willing to pay above the market value of a company to gain control over its operations and decisions. In this article, we will discuss some of the best practices for applying the market approach to control premium analysis, such as:

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Harry Bruintjes

Founder of Crossings | M&A Strategist | Board Advisor & Non-Executive Director | Unlocking Business Value - Expert in…
Vicente Costa, Msc

Controller | Business Intelligence | Data Analysis | Business Strategy | Valuation

1 Choose relevant comparables

The first step in applying the market approach to control premium analysis is to select comparable transactions or companies that are similar to the target company in terms of industry, size, growth, profitability, risk, and other factors. You should also adjust for any differences in capital structure, accounting policies, non-recurring items, and synergies that may affect the valuation. Choosing relevant comparables will help you avoid overestimating or underestimating the control premium.

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2 Use appropriate multiples

The second step in applying the market approach to control premium analysis is to use appropriate multiples to derive the market value of the target company and the comparable transactions or companies. Multiples are ratios that relate the value of a company to its financial or operational metrics, such as earnings, revenue, cash flow, or assets. You should use multiples that reflect the drivers of value and performance of the target company and the comparables, and that are consistent and comparable across the sample. For example, you may use EBITDA multiples for companies with stable and predictable cash flows, or revenue multiples for companies with high growth potential.

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Vicente Costa, Msc

Controller | Business Intelligence | Data Analysis | Business Strategy | Valuation
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Using appropriate multiples is essential in the analysis of control premiums. It's important to select multiples that reflect the specific characteristics of the company being evaluated, such as industry, size, and growth profile. Additionally, considering a combination of multiples (like EV/EBITDA, P/E) can provide a more balanced and robust view, avoiding biased or distorted conclusions that could arise from relying on a single indicator.

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3 Calculate the implied control premium

The third step in applying the market approach to control premium analysis is to calculate the implied control premium for each comparable transaction or company. The implied control premium is the percentage difference between the price paid by the acquirer and the market value of the target company before the transaction. You can calculate the implied control premium by dividing the price paid by the market value and subtracting one. For example, if the price paid was $100 million and the market value was $80 million, the implied control premium would be ($100/$80) - 1 = 0.25 or 25%.

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Harry Bruintjes

Founder of Crossings | M&A Strategist | Board Advisor & Non-Executive Director | Unlocking Business Value - Expert in Business Valuation | Guiding Top Talent in Strategy, M&A, and Investment Management to Success
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The market approach can be useful in control premium analysis, but it should primarily serve as a benchmark rather than the central valuation method. Best practices involve using it to check the viability of a Discounted Cash Flow (DCF) valuation. Since DCF captures company-specific fundamentals more thoroughly, it offers a stronger basis for valuation. Control premiums derived from market comparables often vary widely and can be influenced by external factors, such as market sentiment or transaction-specific synergies, which may not fully reflect intrinsic value. Therefore, they are not always reliable and should be scrutinized.

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Vicente Costa, Msc

Controller | Business Intelligence | Data Analysis | Business Strategy | Valuation
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Calculating the implied control premium requires careful analysis of market multiples and the prices paid in comparable transactions. This calculation should consider differences in levels of control and the synergy expectations that justify a premium. Understanding the underlying factors that influence the control premium allows for a more accurate assessment and identification of value opportunities for both buyers and sellers.

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4 Analyze the distribution and range

The fourth step in applying the market approach to control premium analysis is to analyze the distribution and range of the implied control premiums for the comparable transactions or companies. You should look at the mean, median, standard deviation, minimum, maximum, and quartiles of the implied control premiums to understand the variability and outliers in the sample. You should also examine the factors that may explain the differences in the implied control premiums, such as strategic motives, competitive bidding, synergies, market conditions, and deal structures. This will help you identify the most relevant and representative implied control premiums for the target company.

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5 Apply judgment and sensitivity

The fifth step in applying the market approach to control premium analysis is to apply judgment and sensitivity to select or adjust the implied control premium for the target company. You should consider the specific characteristics and circumstances of the target company and the transaction, such as its growth prospects, competitive advantages, operational efficiencies, governance structure, and shareholder expectations. You should also perform sensitivity analysis to test how the control premium changes with different assumptions and scenarios. This will help you avoid relying solely on historical data and averages, and account for the uncertainties and risks involved in the valuation.

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6 Document and support your assumptions

The sixth and final step in applying the market approach to control premium analysis is to document and support your assumptions and calculations. You should provide clear and transparent explanations of how you selected and adjusted the comparables, how you derived and applied the multiples, how you calculated and analyzed the implied control premiums, and how you applied judgment and sensitivity. You should also provide sources and references for your data and information, and disclose any limitations and caveats of your analysis. This will help you enhance the credibility and reliability of your valuation, and facilitate the review and verification by others.

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Vicente Costa, Msc

Controller | Business Intelligence | Data Analysis | Business Strategy | Valuation
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Documenting and supporting your assumptions is a critical step in the control premium analysis. Clearly outlining the rationale behind your assumptions, and backing them up with data, enhances the credibility of your valuation. This transparency not only helps in justifying your conclusions but also allows for more effective communication with stakeholders, ensuring that everyone is aligned and understands the basis of the analysis.

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7 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?

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What are the best practices for applying the market approach to control premium analysis?

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1 Choose relevant comparables

2 Use appropriate multiples

3 Calculate the implied control premium

4 Analyze the distribution and range

5 Apply judgment and sensitivity

6 Document and support your assumptions

7 Here’s what else to consider

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