FIN 40153: Advanced Corporate Finance. Basic Valuation Techniques (Based on RWJ Chapter 18). Valuation Methodologies. Income approach Discounted cash flow Market approaches Comparable multiple and transaction analyses Cost approaches Replacement cost Adjusted book value or sum of assets.
Basic Valuation Techniques
(Based on RWJ Chapter 18)
What is FCF?
- Operating Expenses
Earnings Before Interest, Taxes, Dep & Amort (EBITDA)
- Depreciation and Amortization
Operating Profit (EBIT)
x (1 - Tax Rate)
Operating Profits After Tax
+ Depreciation and Amortization
- Capital Expenditures
- Additions to Working Capital
Free Cash Flows
Free Cash Flow =
EBIT×(1-T) Net Operating Profit After Tax
+ DA Depreciation and Amortization
- ΔNWC Change in Net Working Capital
- CAPX Capital Expenditures
EBIT = Revenues – CGS – Other Costs – Depreciation
NOPLAT = EBIT×(1 – T)
Income Approaches to Valuation:Discounted Cash Flow (DCF) Analysis
NOPATt = EBITt ×(1 - tc) 
FCFt = NOPATt + DEPt - CAPEXt - DWCt 
NOPATt - net operating profits after tax
EBITt - projected earnings before interest and taxes
tc - corporate tax rate
CAPEXt - total capital expenditures
DEPt - tax depreciation and amortization
DWCt - additions to working capital
The WACC formula can be written as
The APV formula can be written as
Note that no interest expense is included in the cash flow forecasts.
Hence the terminology unlevered net income.
Avco's Current Market Value Balance Sheet ($millions) and Cost of Capital without the RFX Project
Note that Net Debt = Debt – Cash = 320 - 20 = 300
And Enterprise Value = Debt + Equity – Cash = 320 + 300 – 20 = 600
In general net out “excess” cash to determine net debt.
RA = 0.50 × 10% + 0.50 × 6% = 8%
Arvin Industries 12.75
Detroit Diesel 15.72
Lear Corp. 6.16
We believe our company has better growth prospects than the typical firm in the industry.
Therefore we assign it a P/E multiple of 17
Using this gives the following valuation:
Value = $25m x 17 = $425m
Computing Profitability and Valuation Ratios for Wal-Mart and Target
Following data from 2004 for both firms
Let’s compare operating margin, net profit margin, P/E ratio and ratio of enterprise value to operating income and sales
Despite the difference in size, Walmart and Target’s P/E ratio, and enterprise value to operating income ratios are very similar. Target profitability was somewhat higher than Walmart’s explaining the difference in enterprise value to sales.