Valuation. How much are those cash flows worth?. Standard Techniques. Book Value Earnings Multiple Liquidation Value Discounted Cash-Flow. Graham,J.andH.Campbell,2001,“TheTheoryandPracticeofCorporateFinance:EvidencefromtheField,” JournalofFinancialEconomics ,60(2-3),187-243.
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How much are those cash flows worth?
Still one of the most widely used and accepted methods due to certification by accountants, while also being perhaps the most flawed.
Based on historic numbers, ignores the future.
Based on accounting numbers that are potentially flawed and subject to manipulation
Ignores intangibles like customer loyalty.
The price paid for an asset may have no relation to its value in operation or if it had to be sold or replaced (especially as time passes).Book ValueFirm (Enterprise) Value = Book Value of Assets
Corporate Book Value =>
Common's Book Value =>
Subtract this =>
From this =>
Arturo likes to calculate FCF via:
Operating Profit (=EBIT)
+ Increase in deferred taxes
= Net Operating Profit Less Adjusted Taxes (=NOPLAT)
+ Increase in Working Capital Requirements
+ Capital Expenditures
= Free Cash Flow
From the Cash Flow Statement: Capital Expenditures + Sale of Assets = Net Capital Expenditures
Arturo likes to use:
+ Accounts Receivable
= Working Capital Reserves
For changes in working capital Catherine Nolan (a bond analyst and my wife) likes to use:
Changes in Accounts Receivable
+ Changes in Inventories
+ Changes in Accounts Payable
= Changes Working Capital Reserves
Invested Capital = Long Term Assets + Working Capital Requirements
The accuracy of your valuation will depend upon the degree to which you accurately forecast ROIC and g.
r = discount rate, g = growth rate, T = end of the forecast horizon
ROIC = long-term return on newly invested capital.
This formula may be easier to use than the previous formula since you do not have to estimate CAPEX. Instead it is estimated for you from g and ROIC.
EVA = Invested Capital x (ROIC – r)