scholarly journals Over-Valuation: Avoid Double Counting when Retaining Dividends in the FCFE Valuation

2017 ◽  
Vol 8 (4) ◽  
pp. 107
Author(s):  
Joao Marques Silva ◽  
Jose Azevedo Pereira
Keyword(s):  
Cash Flow ◽  
Flow Model ◽  
Weighted Average ◽  
Free Cash Flow ◽  
Double Counting ◽  
Cost Of Equity ◽  
Discounted Cash Flow ◽  
Enterprise Valuation ◽  
A Value ◽  
The Cost

Valuation based on DCF (Discounted Cash Flow) has been the dominant valuation procedure during the last decades. In spite of this dominance, enterprise valuation using the discounted FCF (Free Cash Flow) model has some practical drawbacks, since there is often some confusion on how to effectively use it. Commonly, the valuation procedures start by estimating future FCF figures from historical data, such as mean FCF, growth and retention ratio, alongside many other variables. These FCF forecasts are discounted at the cost of equity (FCFE – FCF to Equity) or the Weighted Average Cost of Capital WACC (FCFF – FCF to Firm). Implicit in the above mentioned valuation procedures is the expectation that the company puts the retained free cash that is generating to good use, yielding a value capable of rewarding appropriately the level of risk inherent in the way it used. Some poorly performed valuation studies however tend to double count (Damodaran, 2006a) the retained cash’s interest in subsequent values of FCF, or include the accumulated cash build-up in the Terminal Value. This paper discusses how these two common double-counting mistakes are made and evaluates their weight in the final valuation figure for the particular case of retained FCFE (the case for the FCFF is analogous, but we focus on FCFE for simplicity) using projected figures.

scholarly journals Valuing Coca-Cola Using The Free Cash Flow To Equity Valuation Model

2012 ◽  
Vol 10 (11) ◽  
pp. 629
Author(s):  
John C. Gardner ◽  
Carl B. McGowan, Jr ◽  
Susan E. Moeller
Keyword(s):  
Cash Flow ◽  
Normal Growth ◽  
Free Cash Flow ◽  
Equity Valuation ◽  
Cost Of Equity ◽  
Font Size ◽  
Valuation Model ◽  
A Value ◽  
Equity Model ◽  
The Cost

<span style="font-family: Times New Roman; font-size: small;"> </span><p style="margin: 0in 0.5in 0pt; text-align: justify;" class="MsoNormal"><span style="font-size: 10pt;"><span style="font-family: Times New Roman;">In this paper, we provide a detailed example of applying the free cash flow to equity valuation model proposed in Damodaran (2006).<span style="mso-spacerun: yes;"> </span>Damodaran (2006) argues that the value of a stock is the discounted present value of the future free cash flow to equity discounted at the cost of equity.<span style="mso-spacerun: yes;"> </span>We combine the free cash flow to equity model with the super-normal growth model to determine the current value of Coca-Cola.<span style="mso-spacerun: yes;"> </span>At the time of this paper, we determined a value of Coca-Cola at $161 billion using the free cash flow to equity model, and the actual market value of Coca-Cola was $150 billion.<span style="mso-spacerun: yes;"> </span><strong style="mso-bidi-font-weight: normal;"></strong></span></span></p><span style="font-family: Times New Roman; font-size: small;"> </span>

Application of discounted cash flow model valuation: The case of Excide industries

2021 ◽  
Vol 8 (4) ◽  
pp. 170-179
Author(s):  
Ashok Panigrahi ◽  
Kushal Vachhani ◽  
Mohit Sisodia
Keyword(s):  
Sensitivity Analysis ◽  
Cash Flow ◽  
Flow Model ◽  
Cost Of Capital ◽  
Weighted Average ◽  
The Other ◽  
Discounted Cash Flow ◽  
Worst Case ◽  
Share Prices ◽  
Valuation Technique

Theoretical and practical features of the widely used discounted cash flow (DCF) valuation approach are examined in depth in this paper. This research evaluates Exide Industries by using the DCF Valuation technique. It is widely accepted that the discounted cash flow approach is an effective tool for analyzing the situation of an organization even in the most complicated circumstances. The DCF approach, on the other hand, is prone to huge assumption bias, and even little modifications in an analysis' underlying assumptions may substantially affect the valuation findings. As a result, of the sensitivity analysis, we discovered bullish, base, and worst-case scenarios with target share prices of Rs. 253.25, Rs. 171.37, and Rs.133.25, respectively, by adjusting growth and WACC (Weighted-Average Cost of Capital) values.

Agency Costs of Free Cash Flow and the Effect of Shareholder Rights on the Implied Cost of Equity Capital

2010 ◽  
Vol 46 (1) ◽  
pp. 171-207 ◽  
Author(s):  
Kevin C. W. Chen ◽  
Zhihong Chen ◽  
K. C. John Wei
Keyword(s):  
Cash Flow ◽  
Agency Problems ◽  
Equity Capital ◽  
Free Cash Flow ◽  
Shareholder Rights ◽  
Cost Of Equity Capital ◽  
Cost Of Equity ◽  
The Cost ◽  
The Impact ◽  
Implied Cost Of Equity

AbstractIn this paper, we examine the effect of shareholder rights on reducing the cost of equity and the impact of agency problems from free cash flow (FCF) on this effect. We find that firms with strong shareholder rights have a significantly lower implied cost of equity after controlling for risk factors, price momentum, analysts’ forecast biases, and industry and year effects than do firms with weak shareholder rights. Further analysis shows that the effect of shareholder rights on reducing the cost of equity is significantly stronger for firms with more severe agency problems from FCFs.

scholarly journals Methods of Bank Valuation in the Age of Globalization

2015 ◽  
pp. 173-183
Author(s):  
A. Karminsky ◽  
E. Frolova
Keyword(s):  
Weighted Average ◽  
Cash Flows ◽  
Equity Capital ◽  
Residual Income ◽  
Cost Of Equity Capital ◽  
Cost Of Equity ◽  
Discounted Cash Flow ◽  
Funding Liquidity ◽  
Equity Value ◽  
The Cost

This paper reviews the theory ofvalue-based management at the commercial bank and the main valuation methods in the age of globalization. The paper identifies five main factors that significantly influence valuation models selection and building: funding, liquidity, risks, exogenous factors and the capital cushion. It is shown that valuation models can be classified depending on underlying cash flows. Particular attention is paid to models based on potentially available cash flows (Discounted cash flow-oriented approaches, DCF) and models based on residual income flows (Residual income-oriented approaches). In addition, we consider an alternative approach based on comparison with same sector banks (based on multiples). For bank valuation equity discounted сash flow method is recommended (Equity DCF). Equity DCF values equity value of a bank directly by discounting cash flows to equity at the cost of equity (Capital Asset Pricing Model, CAPM), rather than at the weighted average cost of capital (WACC). For the purposes of operational management residual income-oriented approaches are recommended for use, because they are better aligned with the process of internal planning and forecasting in banks. For strategic management residual income-oriented methods most useful when expected cash flows are negative throughout the forecast period. Discounted сash flow-oriented approaches are preferable when expected cash flows have positive values and needs for models using is motivated by supporting the investment decisions. Proposed classification can be developed in interests of bank management tasks in the midterm in the age of globalization.

scholarly journals A Behavioral Approach To Derive The Cost Of Equity Capital For Small Closely Held Firms

2011 ◽  
Vol 4 (10) ◽  
Author(s):  
Denis Boudreaux ◽  
Tom Watson ◽  
James Hopper
Keyword(s):  
Stock Prices ◽  
Stock Price ◽  
Reliability And Validity ◽  
Weighted Average ◽  
Equity Capital ◽  
Behavioral Approach ◽  
Cost Of Equity Capital ◽  
Cost Of Equity ◽  
Discounted Cash Flow ◽  
The Cost

The purpose of this research is to explore the theoretical structure that underlies the valuation process for small closely held firms.  All discounted cash flow valuation models require an estimate of a firm’s weighted average cost of capital as well as the firm’s component cost of equity capital. The CAPM is frequently employed to measure the cost of equity capital for a publicly traded firm.  A publicly held firm’s common stock price is determined in the capital markets and is readily available.  The firm’s stock price can then be used to estimate its beta; a necessary input to the CAPM.  Because there is no information about stock prices, the task of estimating the cost of equity for a closely held firm is more challenging.  The build-up model is frequently used to calculate the cost of equity for the closely held firm. However there is much controversy over this model’s assumptions, reliability and validity.  Specifically, this research critiques the build-up model identifying its advantages and its liabilities. The purpose of this work is to create discussion and stimulate economists to study and improve this important area.  Additionally, this study offers a new economic model to estimate the cost of equity capital that is theoretically correct easy to understand

scholarly journals On the Differential Analysis of Enterprise Valuation Methods as a Guideline for Unlisted Companies Assessment (I): Empowering Discounted Cash Flow Valuation

2020 ◽  
Vol 10 (17) ◽  
pp. 5875
Author(s):  
Germania Vayas-Ortega ◽  
Cristina Soguero-Ruiz ◽  
José-Luis Rojo-Álvarez ◽  
Francisco-Javier Gimeno-Blanes
Keyword(s):  
Cash Flow ◽  
Private Equity ◽  
Weighted Average ◽  
Companion Paper ◽  
Free Cash Flow ◽  
Fine Tuning ◽  
Machine Learning Techniques ◽  
Differential Analysis ◽  
Discounted Cash Flow ◽  
Endogenous Variables

The Discounted Cash Flow (DCF) method is probably the most extended approach used in company valuation, its main drawbacks being probably the known extreme sensitivity to key variables such as Weighted Average Cost of Capital (WACC) and Free Cash Flow (FCF) estimations not unquestionably obtained. In this paper we propose an unbiased and systematic DCF method which allows us to value private equity by leveraging on stock markets evidences, based on a twofold approach: First, the use of the inverse method assesses the existence of a coherent WACC that positively compares with market observations; second, different FCF forecasting methods are benchmarked and shown to correspond with actual valuations. We use financial historical data including 42 companies in five sectors, extracted from Eikon-Reuters. Our results show that WACC and FCF forecasting are not coherent with market expectations along time, with sectors, or with market regions, when only historical and endogenous variables are taken into account. The best estimates are found when exogenous variables, operational normalization of input space, and data-driven linear techniques are considered (Root Mean Square Error of 6.51). Our method suggests that FCFs and their positive alignment with Market Capitalization and the subordinate enterprise value are the most influencing variables. The fine-tuning of the methods presented here, along with an exhaustive analysis using nonlinear machine-learning techniques, are developed and discussed in the companion paper.

scholarly journals ANALISIS VALUASI HARGA WAJAR SAHAM DENGAN METODE FREE CASH FLOW TO EQUITY (FCFE) DAN METODE RELATIVE VALUATION PADA SAHAM-SAHAM IDX30 TAHUN 2012

2018 ◽  
Vol 2 (2) ◽  
Author(s):  
Ria Puspitasari ◽  
Tekni Megaster
Keyword(s):  
Cash Flow ◽  
Flow Model ◽  
Free Cash Flow ◽  
Discounted Cash Flow ◽  
Book Value ◽  
Relative Valuation

Penelitian ini bertujuan untuk menguji relevansi penilaian harga wajar saham dengan metode Discounted Cash Flow Model (DCF) dengan pendekatan valuasi Free Cash Flow to Equity (FCFE) dan metode relative valuation pada saham-saham yang terdaftar di Bursa Efek Indonesia. Obyek penelitian pada karya tulis ini adalah saham-saham yang terdaftar pada IDX30. Hasil penelitian ini menunjukan bahwa harga wajar saham IDX30 dengan metode relative valuation dengan pendekatan Price to Book Value (PBV) menghasilkan 6 saham perusahaan mengalami undervalued dan 24 saham mengalami overvalued dan dengan pendekatan Price Earning Ratio (PER) menghasilkan 12 saham mengalami undervalued dan 18 saham mengalami overvalued. Sedangkan dengan menggunakan metode Discounted Cash Flow Model dengan pendekatan Free Cash Flow to Equity menghasilkan 19 saham yang mengalami undervalued dan 11 saham yang mengalami overvalued.Kata Kunci : Valuasi, DCF, FCFE, Indeks IDX30, Relative valuation, Price to Book Value dan Price Earning Ratio

scholarly journals Financial Constraints and Cost of Equity: Empirical Study of Shariah Compliant Firms in Indonesia

2019 ◽  
Vol 10 (3) ◽  
pp. 371
Author(s):  
Diana Hashim Syarif ◽  
Sugeng Wahyudi ◽  
Irene Rini Demi Pangestuti
Keyword(s):  
Cash Flow ◽  
Financial Constraints ◽  
Equity Capital ◽  
Free Cash Flow ◽  
Investment Efficiency ◽  
Cost Of Equity Capital ◽  
Cost Of Equity ◽  
Capital Costs ◽  
Financial Characteristics ◽  
The Cost

This study is to investigate the relationship between financial characteristics and the cost of equity capital from sharia-based companies, which tend to be financially constrained. Using 276 observations, the results of this study indicate that financial constraints which are proxied by free cash flow have a role in influencing the cost of equity capital. This study also builds an indirect relationship of free cash flow and capital costs by proposing investment efficiency as a mediator variable. By using the causal step approach from Baron and Kenny, the test results show that investment efficiency mediates the effect of free cash flow on the cost of equity capital with an indirect effect that is stronger than the direct effect. This study also found evidence that leverage has no role in strengthening the effect of free cash flow on the cost of equity capital.

scholarly journals Estimating the Cost of Equity Using a Mining Build‑Up Model

2017 ◽  
Vol 65 (5) ◽  
pp. 1643-1653
Author(s):  
Petr Bora ◽  
Michal Vaněk
Keyword(s):  
Risk Premium ◽  
Weighted Average ◽  
Financial Risks ◽  
Cost Of Equity ◽  
Analytic Hierarchy ◽  
Mining Company ◽  
A Value ◽  
Risk Free Rate ◽  
The Cost ◽  
Hierarchy Process

Among other methods, build‑up models have been used to value equity. However, the build‑up models are usually general models to appraise business and financial risks, and thus cannot fully mirror the special characteristics of different industries. The article presents a new model called ‘Mining Build‑up Model’ to assess the risks of mining companies. The model has four modules of risks (A – Business risks, B – Financial risks, C – Mining risks, and D – Module of a mining company), altogether roofing 12 areas of different risks. To demonstrate its usefulness, the Mining Build‑up Model was applied on a mining company called OKD, a.s. – a member of the mining group New World Resources (NWR) in the Czech Republic. For the different areas of risks, we quantified the components of risk, which became the starting points to determine the final risk premium. The quantification of the components of risks relies on expert evaluations of the degree of risk of the different components of risk in the risk modules. The weighs of the components of risks were determined using Saaty’s method (the Analytic Hierarchy Process – AHP). We found that in OKD, a. s. – a member of the mining group NWR – the risk premium of cost of equity reached the value of 12.52 % in 2013. As we worked with the risk‑free rate of return at a value of 2.83 %, the cost of equity for OKD, a. s. – a member of the mining group NWR, amounted to 15.35 %. The weighted average cost of capital of NWR Plc was calculated as 12.34 %.

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