Spotify, Carillion: price is what you pay, value is what you get

Spotify, Carillion: price is what you pay, value is what you get

The recent Spotify listing demonstrates how the actual price at which a company might trade compares to public perception of the intrinsic value of the company. How can accountants ensure they stay up-to-date with best practices to ensure robust valuations?

When Spotify listed on the New York Stock Exchange (NYSE) last month, its shares opened at $165.90, closing at $149.01 to value the music streaming service at $26.5bn.

The share price was monitored with particular interest by investors and consumers given that the company had opted for a direct listing over a traditional IPO.

But why did Spotify’s decision generate such intrigue?

Actual price vs public perception of the value of a company

By choosing to go with a direct listing rather than engaging the services of an underwriter to manage the transition, Spotify said that it was levelling the playing field between investors by letting the public decide what the company was worth. As the company was already well capitalised with €1.5bn in cash and cash equivalents, no debt and a positive free cashflow, it had no need to raise money by selling shares.

Spotify also said that it was promoting “radical transparency” by listing directly. While companies on the IPO route often embark on a roadshow ahead of listing in order to engage a limited group of investors, Spotify confirmed that its Investor Day presentation would be available to view worldwide and would involve the participation of the entire leadership team.

However, perhaps most importantly, Spotify said that a direct listing would trigger “market driven price discovery from the NYSE”. With no friction from share lock-ups or limited floats, the music streaming service said that it believed “wisdom of crowds trumps expert intervention” and that the company’s market price would “find equilibrium through natural market forces”.

The Spotify listing was therefore an important example of how the actual price at which a company might trade compares to public perception of the intrinsic value of the company. Value is not a point estimate but rather a range that is driven by differences in key assumptions.

The challenge for professionals working on valuations lies in calculating those assumptions, which can prove technically demanding. Analysts must consider a variety of areas, including company growth, long-term cashflow, dividend pay outs, strength of the industry competition and macro-economics.

Questioning assumptions – the case of Carillion

During the assumption process, it is essential for valuers to calibrate and sense check a valuation. Failure to do so may result in questions later down the line regarding the validity of key assumptions. In the case of Carillion, the company’s auditors signed off on Carillion’s 2016 accounts in March 2017, yet months later the construction company gave its first profit warning and issued an £845m write-down in the value of its contracts. By January 2018, the company was insolvent with only £29m cash and debt of over £1.3bn.

The collapse has led to an investigation by the Financial Reporting Council into ethical and technical standards for auditors and a parliamentary committee inquiry questioning corporate accountability and the drastic change in assessment of Carillion’s accounts between March and July 2017.

Narrative and numbers

Professor Aswath Damodaran, an expert on valuation who recently spoke on valuation theory at the ICAEW, has previously highlighted the importance of understanding the story behind the numbers in order to conduct valuations effectively.

Damodaran has said that the narrative behind a business drives its corporate value, “adding substance” to the numbers. He sees valuation as the “bridge between stories and numbers, where every story becomes a number in the valuation and every number in a valuation has a story behind it”. The concept involves developing a probable narrative for the business being valued, before converting the narrative into drivers of value by placing each part of the narrative against the numbers and ensuring that all numbers are backed up by the narrative. A valuation model should then be created, resulting in an end-value for the business. Finally, feedback must be received from the company’s experts to hone the narrative.

As specialists face significant and new challenges while carrying out valuation work, staying up-to-date with the latest best practice for valuations is critical. Training is a key component to this and applies to accountants of all abilities.

Training and support

The ICAEW Academy of Professional Development is one organisation to offer a range of CPD courses to support valuers and those working in corporate finance. There are courses covering the basics of cost of capital and the difference between equity and enterprise level valuations as well as advanced courses which focus on more complex modelling and valuation issues.

In addition, the ICAEW’s valuation community assists accountants performing valuations by providing transactions and market data in addition to company insights. Events and webinars also enable accountants to expand their networks and learn from industry leading experts.

Future of valuation

Valuation work is often complex and technical yet its importance in contributing to business viability and growth is evident. Failure to sense test can lead to significant business collapses or spark public and private controversy surrounding corporate governance and accountability. For valuers, keeping abreast of and following best practices is critical to ensuring robust valuations and staying at the forefront of valuation quality in the accountancy industry.

Find out more about staying up-to-date through the ICAEW valuation community and the Academy of Professional Development, which offers valuation CPD courses, talent development programmes, in-house training and specialist qualifications.


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