Transcript
Page 1: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

FREE CASH FLOW VALUATION

PresenterVenueDate

Page 2: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

FREE CASH FLOW

Free Cash Flow to the Firm

= Cash flow available to

Common stockholders

Debtholders

Preferred stockholders

Free Cash Flow to Equity

= Cash flow available to

Common stockholders

Page 3: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

FCFF VS. FCFE APPROACHES TO EQUITY VALUATION

Equity Value

FCFF Discounted at WACC – Debt

Value

FCFE Discounted at Required Equity

Return

Page 4: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

FCFF VS. FCFE APPROACHES TO EQUITY VALUATION

1

FCFF

Firm value1 WACC

Equity value Firm value Debt value

t

tt

1

FCFEEquity value

1

t

tt

r

Page 5: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

SINGLE-STAGE FREE CASH FLOW MODELS

1

1

FCFF

Firm valueWACC

Equity value Firm value Debt value

FCFEEquity value

g

r g

Page 6: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SINGLE-STAGE FCFF MODEL

Current FCFF $6,000,000

Target debt to capital 0.25

Market value of debt $30,000,000

Shares outstanding 2,900,000

Required return on equity 12.0%

Cost of debt 7.0%

Long-term growth in FCFF 5.0%

Tax rate 30%

Page 7: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SINGLE-STAGE FCFF MODEL

MV(Debt) MV(Equity)WACC (1 Tax rate)

MV(Equity) MV(Debt) MV(Equity) MV(Debt)

r rd

WACC 0.25 7% (1 0.30) 0.75 12% 10.23%

Page 8: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SINGLE-STAGE FCFF MODEL

1

FCFF

Firm valueWACC

$6,000,000(1.05)Firm value $120.5 million

0.0123 0.05

Equity value $120.5 million $30 million $90.5 million

Equity value per share $90.5 million 2.9 million $31.21

g

Page 9: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

USING NET INCOME TO DETERMINE FCFF

FCFF NI NCC Int 1– Tax rate – FCInv – WCInv

Page 10: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

OTHER NONCASH ADJUSTMENTS

• Added backAmortization

• Added backRestructuring Expense

• Subtracted outRestructuring Income

• Subtracted outCapital Gains

• Added back Capital Losses

• Added backEmployee Option Exercise

• Added back?Deferred Taxes

• Subtracted out?Tax Asset

Page 11: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

USING EBIT AND EBITDA TO DETERMINE FCFF

FCFF EBIT 1– Tax rate Dep – FCInv – WCInv

FCFF EBITDA 1– Tax rate Dep Tax rate – FCInv – WCInv

Page 12: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

USING CASH FLOW FROM OPERATIONS TO DETERMINE FCFF

FCFF CFO Int 1– Tax rate – FCInv

Page 13: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

CALCULATING FCFE FROM FCFF, NET INCOME, & CFO

FCFE FCFF – Int 1– Tax rate Net borrowing

FCFE from net income (NI) and FCFF:FCFF NI NCC Int 1– Tax rate – FCInv – WCInvFCFE NI NCC – FCInv – WCInv Net borrowing

FCFE from CFO and FCFF:FCFF CFO Int 1– Tax rate – FCInvFCFE CFO – FCInv Net borrowing

Page 14: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

FCFE & FCFF ON A USES OF FCF BASIS

FCFF Δ Cash balance Net payments to debtholders Net payments to stockholders,

FCFE Δ Cash balance Net payments to stockholders

Where Net payments to debtholders Int 1– Tax rate Debt repayments – Debt issuan

ces

Where Net payments to stockholders Cash dividends Share repurchases – Stock issuances

Page 15: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: CALCULATING FCFF

EBITDA $1,000

Depreciation expense $400

Interest expense $150

Tax rate 30%

Purchases of fixed assets $500

Change in working capital $50

Net borrowing $80

Common dividends $200

Page 16: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: CALCULATING FCFF FROM NET INCOME

NI EBITDA – Dep – Int 1– Tax rate

NI $1000 – $400 – $150 1– 0.30 $315

FCFF NI NCC Int 1– Tax rate – FCInv – WCInv

FCFF $315 $400 $150 1– 0.30 – $500 – $50 $270

Page 17: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: CALCULATING FCFF FROM EBIT AND EBITDA

EBIT EBITDA – Dep $1000 – $400 $600

FCFF EBIT 1– Tax rate Dep – FCInv – WCInvFCFF $600 1– 0.30 $400 – $500 – $50 $270

FCFF EBITDA 1– Tax rate Dep Tax rate – FCInv – WCInvFCFF $1000 1– 0.30 $400 0.30 – $500 – $50 $270

Page 18: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: CALCULATING FCFF FROM CFO

CFO NI Dep – WCinvCFO $315 $400 – $50 $665

FCFF CFO Int 1– Tax rate – FCInvFCFF $665 $150 1– 0.30 – $500 $270

Page 19: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: CALCULATING FCFE FROM FCFF, NET INCOME, & CFO

FCFE FCFF – Int 1– Tax rate Net borrowingFCFE $270 – $150 1– 0.30 $80 $245

FCFE NI NCC – FCInv – WCInv Net borrowingFCFE $315 $400 – $500 – $50 $80 $245

FCFE CFO – FCInv Net borrowingFCFE $665 – $500 $80 $245

Page 20: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: CALCULATING FCFE & FCFF ON A USES BASIS

Net payments to debtholders Int 1 – Tax rate Debt repayments Debt issuancesNet payments to debtholders $150 1 0.30 $0 $80 $25

Net payments to stockholders Cash dividends Share repurchases Stock issuance

s Net payments to stockholders $200 $0 $0 $200

ΔCash Balance CFO Cash from investing activities Cash from financing activitiesΔCash Balance $665 $500 $80 $200 $45

FCFF $45 $25 $200 $270

FCFE = $45 + $2

00 = $245

Page 21: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

FORECASTING FCFF & FCFE

FCFF EBIT(1 Tax rate) ΔCapital expenditures ΔWCInv

FCFE NI 1 DR FCInv Dep 1 DR WCInv

Page 22: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: FORECASTING FCFF & FCFE

Sales $4,000 Sales growth $200 EBIT $600 Tax rate 30%Purchases of fixed assets $800Depreciation expense $700Change in working capital $50Net income margin 10%Debt ratio 40%

Page 23: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: FORECASTING FCFF & FCFE

Sales growth $200/$4000 5%

EBIT margin $600 / $4000 15%

$800 $700Incremental FC/Sales growth 50%

$200

$50Incremental WC/Sales growth 25%

$200

Page 24: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: FORECASTING FCFF

Sales $200 $4000 $4200

EBIT $4200 × 15% $630

EBIT(1 ax rate) $630 × (1 30%) $441

Incremental FC $200 50% $100

Incremental WC $200 25% $50

FCFF EBIT(1 Tax rate) ΔCapital expenditures ΔWCInv

FCFF $441 $100 $

50 $291

Page 25: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: FORECASTING FCFE

Sales $200 $4000 $4200

Net income $4200 10% $420

Incremental FC $200 50% $100

Incremental WC $200 25% $50

FCFE NI 1 DR FCInv Dep 1 DR WCInv

FCFE $420 1 0.40 $100 1 0.40 $50 $330

Page 26: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

ISSUES IN FCF ANALYSIS

Financial Statement Discrepancies

Dividends vs. FCFE

Effect of Shareholder Cash Flows & Leverage

FCFF & FCFE vs. EBITDA & Net Income

Country Adjustments

Sensitivity Analysis

Nonoperating Assets

Page 27: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

SIMPLE TWO-STAGE FCF MODELS

1

1

FCFF FCFF 1Firm value +

WACC (1 WACC)1 WACC

n

nt n

t

tg

1

= 1

FCFE FCFE 1Equity value +

(1 )1

n

t nt n

t r g rr

Page 28: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL

Current sales per share $10

Sales growth for first three years 20%

Sales growth for year 4 and thereafter 5%

Net income margin 10%

FCInv/sales growth 40%

WCInv/sales growth 25%

Debt financing of FCInv and WCInv growth 30%

Required return on equity 12.00%

Page 29: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL

FCFE Sales Net income margin FCInv WCInv ΔDebt financing

FCFE $12.00 10% $2 40% $2 25% + $2 65% 30%

FCFE $1.20 $0.80 $0.50 $0.39

FCFE $0.29

Page 30: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL

Year

1 2 3 4 5

Sales growth in % 20% 20% 20% 5% 5%

Sales per share $12.000 $14.400 $17.280 $18.144 $19.051

EPS $1.200 $1.440 $1.728 $1.814 $1.905

FCInv per share $0.800 $0.960 $1.152 $0.346 $0.363

WCInv per share $0.500 $0.600 $0.720 $0.216 $0.227

Debt financing per share $0.390 $0.468 $0.562 $0.168 $0.177

FCFE per share $0.290 $0.348 $0.418 $1.421 $1.492

Growth in FCFE 20.0% 20.0% 240.3% 5.0%

Page 31: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: SIMPLE TWO-STAGE FCFE MODEL

1

= 1

1 2 3 3

FCFE FCFE 1Equity value +

(1 )1

$0.29 $0.348 $0.418 $1.421 1Equity value +

0.12 0.05 (1.12)1.12 1.12 1.12

Equity value $0.2589 $0.2774 $0.2975 $14.4491 $15.28

n

t nt n

t r g rr

Page 32: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

DECLINING GROWTH TWO-STAGE FCFE MODEL

Competition Later Increases

Earnings growth slows

Capital expenditures

declineFCFE increases

InitiallyHigh earnings

growthLarge capital expenditures

Low or negative FCFE

Page 33: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

Current EPS $1 .00WCInv/FCInv 40%Debt financing of FCInv and WCInv growth 30%Required return on equity 12%EPS and FCInv growth for year 5 and thereafter 5%

Page 34: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

Year

1 2 3 4 5

EPS growth 30% 21% 13% 8% 5%

FCInv per share $1.50 $1.25 $1.00 $0.75 $0.50

Page 35: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

FCFE EPS FCInv WCInv ΔDebt financing

FCFE $1.30 $1.50 $1.50×40% $1.50 $1.50 40% 30%

FCFE $1.30 $1.50 $0.60 $1.50 $0.60 30%

FCFE $0.17

Page 36: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

Year

1 2 3 4 5

EPS $1.300 $1.573 $1.777 $1.920 $2.016

FCInv per share $1.500 $1.250 $1.000 $0.750 $0.500

WCInv per share $0.600 $0.500 $0.400 $0.300 $0.200

Debt financing per share $0.630 $0.525 $0.420 $0.315 $0.210

FCFE per share –$0.170 $0.348 $0.797 $1.185 $1.526

Page 37: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

1

= 1

1 2 3 4 4

4

FCFE FCFE 1Equity value

(1 + )1

$0.17 $0.348 $0.797 $1.185 $1.526 1Equity value + + +

0.12 0.05 (1.12)1.12 1.12 1.12 1.12

21.80Equity value $0.1518 $0.2774 $0.5673 $0.7531 $15.3

(1.12)

n

t nt n

t r g rr

0

Equity value -$0.1518+$0.2774 $0.5673+$0.7531+$13.8543 $15.30

Page 38: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: DECLINING GROWTH TWO-STAGE FCFE MODEL

Trailing year 0 P/E ratio $15.30 $1.00 15.3

Trailing year 4 P/E ratio $21.80 $1.92 11.4

Page 39: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: THREE-STAGE FCF MODELS

Current FCFF in millions $100 .00

Shares outstanding in millions 300 .00Long-term debt value in millions $400.00FCFF growth for years 1 to 3 30%FCFF growth for year 4 24%FCFF growth for year 5 12%

FCFF growth for year 6 and thereafter 5%WACC 10%

Page 40: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: THREE-STAGE FCF MODELS

Year

1 2 3 4 5 6

FCFF growth rate 30% 30% 30% 24% 12% 5%

FCFF $130.0 $169.0 $219.7 $272.4 $305.1 $320.4

PV of FCFF $118.2 $139.7 $165.1 $186.1 $189.5

Page 41: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: THREE-STAGE FCF MODELS

1

5

FCFF 1Terminal value

WACC (1 WACC)

$320.4 1Terminal value $3979

0.10 0.05 (1 0.10)

nng

Page 42: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

EXAMPLE: THREE-STAGE FCF MODELS

1

= 1

FCFF FCFF 1Firm value +

WACC (1 WACC)1 WACC

Firm value $118.2 $139.7 $165.1 $186.1 $189.5 $3979 $4777

Equity value Firm value Debt value

Equity value $4777 $400 $4377

Equity value per share

n

t nt n

t g

$4377/300 $14.59

Page 43: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

SUMMARY

• FCFF = Cash flow available to all firm capital providers

• FCFE = Cash flow available to common equityholders

• FCFF is preferred when FCFE is negative or when capital structure is unstable

FCFF vs. FCFE

• Discount FCFF with WACC• Discount FCFE with required return on equity• Equity value = PV(FCFF) – Debt value or PV(FCFE)

Equity Valuation with FCFF & FCFE

Page 44: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

SUMMARY

• Depreciation, amortization, restructuring charges, capital gains/losses, employee stock options, deferred taxes/tax assets

Adjustments for Calculating Free Cash Flows

• Sources – adjust for noncash events and work from …• Net income• EBIT• EBITDA• CFO

• Uses• Δ in Cash balances and net payments to debtholders and

stockholders

Approaches for Calculating FCFF & FCFE

Page 45: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

SUMMARY

• Financial statement discrepancies• Dividends vs. free cash flows• Shareholder cash flows and leverage• FCFF & FCFE vs. EBITDA & Net

income• Country adjustments• Sensitivity analysis• Nonoperating assets

Issues in FCF Analysis

Page 46: FREE CASH FLOW VALUATION Presenter Venue Date. FREE CASH FLOW Free Cash Flow to the Firm = Cash flow available toCommon stockholdersDebtholdersPreferred

SUMMARY

• Forecast sales growth• Assume EBIT margin, FCInv, and WCInv are

proportional to sales• For FCFE, assume debt ratio is constant

Forecasting FCFF & FCFE

• Two-stage with distinct growth in each stage• Two-stage with declining growth from stage 1 to 2• Three-stage model

FCF Valuation Models


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