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Seminar 11 - AF 41 07 Fi nancial Sta te men t An alys is...

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1 AF 4107 – Financial Statement Analysis Seminars 11– Chapters 7, 8, 10 & 11 : Forecasting & Valuation
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2 Forecasting & Valuation Reading Reading : Forecasting: Chapters 7 & 8 (page 143 to 191) Valuation: Chapters 10 & 11 (page 205 to 242) of Lundholm Book Case : Kohl in above Chapters
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3 Seminar 11: Valuation 1. Discounted Cash Flow (DCF) Method – Indirect Approach, Free Cash Flows Determine terminal value of FCF Advantages & Disadvantages of the Model 1. The Comparables Method 1. Investment prospect Putting P/E and P/B together
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4 1. Valuation: Discounted Cash Flow (DCF) Indirect Approach: Free Cash Flows
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5 Discounted Cash Flow (DCF) Valuation Direct approach Direct approach : Dividend Discount Model Indirect approach Indirect approach : Free Cash Flow Free Cash Flow Model Model Free cash flows to all investors or Free cash flows to common equity holders
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6 Discounted Cash Flow (DCF) Valuation Implementing FCF Valuation Implementing FCF Valuation 1. Estimating FCF 1. Estimating FCF growth rate at the end of forecasting horizon 1. Estimating the discount rate used WACC for FCF to All investors Cost of equity for FCF to common equity
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7 Discounted Cash Flow (DCF) Valuation Steps in valuing shares using FCF Steps in valuing shares using FCF model model 1. A forecast of free cash flows over a time period of 5 to 10 years 2. Determine appropriate discount rate: use WACC for valuing the firm, use cost of equity for valuing shares
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8 Discounted Cash Flow (DCF) Valuation Steps in valuing shares using FCF model Steps in valuing shares using FCF model 1. Determine terminal value of free cash flows using a zero or constant growth a zero or constant growth model 2. Compute present value of the cash flows and terminal value using the discount rate 3. After getting the entity value entity value , subtract this value by the value of other claims (i.e. debts and preference shares) to derive the total value of shares total value of shares
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9 3 ways to compute Free Cash Flow to All investors 1. NOI – NOA is easy 2. from the Statement of Cash Flow, note that CFO + CFI + CFF = cash (CFI and CFF usually negative) compute FCF = CFO + CFI – cash + Net Interest payment * (1-tax rate). compute FCF = – CFF + Net Interest payment * (1-tax rate). See Cash Flow Analysis sheet in eVal. 1. 1. OR use the “traditional” approach OR use the “traditional” approach
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10 this assumes that all cash is operating. If want to think of it as financing, then it is negative debt, so an increase in the cash balance is like a reduction in debt.
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11 for the period ending 0 1 2 T-1 T T+1 T+2 NOA 0 NOA 1 NOA 2 …NOA T-1 NOA T NOA T (1+g) NOA T (1+g) 2 -L 0 -L 1 -L 2 … -L T-1 -L T -L T (1+g) -L T (1+g) 2 CE 0 CE 1 CE 2 … CE T-1 CE T CE T (1+g) CE T (1+g) 2 NOI 1 NOI 2 …NOI T-1 NOI T NOI T (1+g) NOI T (1+g) 2 -I 1 -I 2 -I T-1 -I T -I T (1+g) -I T (1+g) 2 NI 1 NI 2 … NI T-1 NI T NI T (1+g) NI T (1+g) 2 L=Interest bearing liabilities, CE= Common Equity, NOI=Net Operating Income after tax, I=Net interest expense after tax, NI= Net income after tax.
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