FCFE VALUATION

CFA Level II Equities
#1

Hi, quick question. I used the after tax depre to get CFO (100*.7). CFAI did not. Why?

Using Norman’s suggested valuation methodology, estimates and the data in Exhibit 2, Laboutin’s intrinsic value per share (in CDN$) is closest to: $181. $155. $171.

Incorrect.

Norman suggests using FCFE and a required return on equity of 10% to value Laboutin. Using Exhibit 2 to calculate FCFE:

FCFE = Net Income + Depreciation – FCInv – WCInv + Net borrowing

FCFE = 500 _ + 100 _ - 90 - 25 + 80 = $565 million

Sustainable growth rate: g = b × ROE;

b = Retention ratio = (1 – Dividend payout ratio)

g = (1 – 0.32) × 8.33 = 5.6%; r = 10%

Equity value = FCFE1 / (r – g) = [565 × (1.056)] ÷ [0.10 - 0.056)] = 598.90 ÷ 0.044 = $13,560 million

Value per share = 13,560 ÷ 75 = $180.80

CFA Level II

“Discounted Dividend Valuation, ” Jerald E. Pinto, Elaine Henry, Thomas R. Robinson, and John D. Stowe

Section 6.1

“Free Cash Flow Valuation, ” Jerald E. Pinto, Elaine Henry, Thomas R. Robinson, and John D. Stowe

Sections: 3.4, 3.8.2, 3.8.3

#2

You’re adding back depreciation because it’s not a cash expense. The taxes you saved, however, are cash, so you needn’t adjust for them.

#3

thank you sir

#4

You’re welcome.

#5

just to make sure, i should never account for taxes when adding back depre exp to calculate CFO, right?

#6

Correct.

#7

many thanks for taking the time to answer again

#8

Por nada.