Comparison of Effectiveness of Methods for Company Valuation Using Discounted Cash Flows and Real Options Approach

Proper evaluation of the target company and the potential outcome of acquisition are essential for the absorbing party. However, the rapid development of valuation requires additional research regarding their effectiveness. Since the end of the twentieth century, great variety of scientific researches have indicated low effectiveness of lineal DCF model for company valuation. This paper studies the effectiveness of the method which accounts discretionary nature of cash flows after acquisition. We refer to this method as triangular distribution, which is classified as a real option valuation model. To prove our assumptions, the triangular distribution will be examined during the analysis of two acquisitions, one successful and one value-breaking. One of the most important components of the work will be the forecast of synergistic effects, as well as the cost of their realization. One of the requirements of our study is to apply all studied areas of triangular distribution in conjunction in order to to obtain the correct investment attractiveness of the transaction. During the analysis of value breaking deal, the triangular distribution revealed a low investment attractiveness associated with a high risk of negative synergies. During the analysis of successful deal all areas of application indicated the investment attractiveness of the transaction. Real net synergistic effect obtained after acquisition was almost identical to the expected weighted net synergy, which again indicates the effectiveness of the studied model. Due to ineffectiveness of DCF analysis in prediction of highly uncertain factors such as the studied indicators and synergies, and due to the effectiveness of the real option valuation which has been clearly demonstrated in the study, we concluded that triangular distribution is much more effective in determining the investment attractiveness of the acquisition and obtaining highly uncertain but necessary information for the buyer