Melanie wrote:So am I indeed right that I'd derive a measure of gross debt (initially) from the "Non-current liabilities" Balance sheet? ...
No, you need to look at the "Current liabilities" as well, otherwise you miss things like overdrafts (loans that the bank can demand back at any time) and loans whose repayment date has become less than a year away.
Basically, look through all the liabilities on the balance sheet and identify the ones that are currently accruing interest or are expected to start doing so: they're the debt. So loans from banks are debt, bonds the company has issued are debt, trade payables are not (they might start accruing interest if left unpaid for too long if the contract under which they're payable says so, but they're not expected to be left unpaid that long), provisions are not (they're money the company thinks it is likely to have to pay in future, but it's not yet certain when, and may not even be certain that it will ever have to be paid). After gaining a bit of experience researching a few companies, you should start to recognise the things that are and aren't debt, and only need to check in more detail when you encounter something new to you. In Domino's case, my experience would suggest that the two items called "Financial liabilities" are debt, the one called "Financial liabilities – share buyback obligation" probably isn't (the word "obligation" doesn't suggest interest is accruing, but I'm by not entirely certain of that - it's something I either haven't come across before or so rarely / long ago that I don't remember), and the others aren't.
But a useful technique is simply to search the report for the word "debt". Often you'll find the company's own calculation of it from balance sheet items, which is a good starting point... You might want to sanity-check the balance sheet items they don't include to check whether you think they should be included - but when in the past I've tried to do the calculation myself and then checked against the company's calculation, the discrepancies I've discovered are more often things I've overlooked and the company has included than the other way around!
In Domino's case, they don't give a calculation but do give a "net debt" figure of £89.2m. The two "Financial liabilities" items minus "Cash and cash equivalents" total £152.3m+£6.2m-£29.0m = £129.5m. That's a big difference, which I would investigate - and on investigating note 24 about the "Financial liabilities", I find they include two items called "Gross put option liabilities" that total £34.7m+£5.6m = £40.3m and don't look as if interest is accruing on them. Excluding them reduces the £129.5m from my calculation to £129.5m-£40.3m = £89.2m, and the equivalent calculation on the 2016 comparatives gives their comparative "net debt" figure of £34.6m, so I think I've probably worked out what Domino's calculation was!
Gengulphus wrote: and how you choose to measure its capital value: net asset value is a popular one, but so is net tangible asset value (i.e. net asset value minus the value of goodwill and other intangible assets) and there are several others.
I understand this conceptually, but I'm struggling on a couple of things. I've just read that goodwill is when a purchase (or sale I guess) occurs for an advantageous price. So presumably a firm acquires an asset which should be priced at £20, for only £15...but it lists it's value is the BS as £20? Is that correct? ...
In accounting terms, goodwill arises specifically on acquisitions of other companies: it is the amount paid for the acquisition minus the identifiable book value of its assets. The idea is basically that the acquirer have paid a fair price for the acquisition, so if e.g. the acquirer has paid £100m for the acquisition and the assets it has have a total book value of £60m, then the fact that it has the ongoing business it does must be worth a further £40m of 'goodwill'. It's a reasonable idea in principle, but IMHO has at least two problems in practice. First, companies have rather too frequently been known to overpay for acquisitions and occasionally snap up a bargain, i.e. underpay for them. Including 'goodwill' in net asset value results in the overpaying company's net asset value being too high and the underpaying company's net asset value too low, which means that figure calculated for the overpaying company's gearing is too low and that for the underpaying company too high. Since lower gearing is better, that produces a bias in favour of companies that have overpaid for acquisitions in the past and against ones that have underpaid, which is not
what I want: gearing is supposed to be a capital-based "snapshot" of the company's state on a particular date and so not to be biased by what the company has done previously, but if it's got to have such a bias, I want it to favour companies with good past records over ones with poor past records! (That problem is mitigated by the accounting rules about goodwill impairment reviews: they basically say that goodwill must be regularly reviewed for being a reasonable value of the associated ongoing business, and if that reveals that it's overvalued then the balance sheet value of the goodwill must be impaired, i.e. reduced. But it's not mitigated very well because valuing the ongoing business is not an exact science, and directors are reluctant to impair goodwill because the impairment reduces earnings on the income statement, so the mitigation tends to only happen when it becomes pretty glaringly obvious that the ongoing business is overvalued...)
Secondly, accounting goodwill never arises from organically growing subsidiaries, only from acquiring them. So two currently-identical companies that only differ in that in the past, company A acquired its subsidiaries and company B started them up and grew them organically, will have balance sheets that include goodwill assets for company A's subsidiaries and not for company B's subsidiaries, while they'll have identical liabilities and non-goodwill assets. So two companies in exactly the same current state could have very different net asset values, even if everything on the balance sheet is fairly valued. That difference is basically due to the fact that the fair values of the ongoing businesses of company A's subsidiaries is on the balance sheet, while those for company B are not. So that produces a net asset value bias in favour of company A, when I'd want them to be equal on net asset value (and again, if there has to be a bias, I'd want it to be in favour of company B - organically-grown businesses are less likely to suffer bedding-in problems than acquired ones...).
Melanie wrote:So, another assumption, presumably you can't meaningfully deduct any such figure for your calculations, unless the firm's BS actually itemises an entry called exactly that; i.e. goodwill.
If you want to calculate net tangible asset value (NTAV), subtract anything on the balance sheet called "Intangible assets", "Goodwill", "Other intangible assets" or similar (there are minor variations between companies about the exact naming of most balance sheet items, though not many about these particular items). "Goodwill" and "Other intangible assets" tend to appear in pairs, in that order, and when "Intangible assets" appears on its own, it usually points to a note that breaks them down into categories, goodwill being one of them.
In your example of Domino, net asset value is given on the balance sheet as £64.5m and "Intangible assets" as £114.2m, so NTAV = £64.5m-£114.2m = -£49.7m is negative. When the 'capital value' figure in a 'debt' / 'capital value' gearing calculation is negative, the resulting figure is very misleading, a situation called 'negative equity'. So if you use net debt as the 'debt' figure, for instance, Domino's net gearing is £89.2m/£64.5m = 138% based on NAV but 'negative equity' (rather than a percentage) based on NTAV.
Some people (I'm one of them) prefer to automatically ignore only goodwill, and take a considered view of other intangible assets. So for example, a look at note 15 shows that goodwill is only £49.7m out of the £114.2m intangible assets, so Domino's net gearing is £89.2m/(£64.5m-£49.7m) = 603% based on NAV excluding goodwill. (That's not a statement that I wouldn't exclude the three other categories of intangible asset in note 15, by the way - I might or might not decide to if I were to consider the question.)