428_lecture10_Earning__S09 - Valuation Class 10 DCF and...

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Valuation Class 10 DCF and Earnings
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Selected Commentary from William C. Nygren, CFA Portfolio Manager, The Oakmark and Oakmark Select Funds The U.S. market, down 19% in the first three quarters, fell another 35% to its fourth quarter low. One after another, businesses announced lower profits and set expectations for additional declines. More companies lined up for government help. There were more scandals and more bankruptcies. You can’t blame investors for becoming depressed. Lucy: Do you think you have pantaphobia? Charlie Brown: What’s pantaphobia? Lucy: The fear of everything. Charlie Brown: THAT’S IT! 2
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Selected Commentary from William C. Nygren, CFA Portfolio Manager, The Oakmark and Oakmark Select Funds Investors are now faced with record low returns on the safest, most liquid assets, such as the short-term Treasury market, where yields briefly turned negative. But investors also have the opportunity to obtain unusually high returns for taking liquidity risk or valuation risk in both debt and equity markets. 3
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Selected Commentary from William C. Nygren, CFA Portfolio Manager, The Oakmark and Oakmark Select Funds When George Bailey pleaded with the mob at the bank who wanted to withdraw their savings, imploring them to not sell for 50 cents on the dollar to the evil Henry Potter, he said: “Can’t you understand what’s happening here? Don’t you see what’s happening? Potter isn’t selling, Potter’s buying. And why, because we’re panicky and he’s not, that’s why. He’s picking up some bargains. Now we can get through this all right, we’ve got to stick together, though. We’ve got to have faith in each other.” 4
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Use this table when adjusting Net Income  to Operating Cash Flows. Review: Indirect Method of Reporting Operating Cash Flows ( Add or Subtract ) Change in Account Balance During Year Increase Decrease Current Assets + (-) to (from) Net Income + (-) to (from) Net Income Current Liabilities + (-) to (from) Net Income + (-) to (from) Net Income
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Review In terms of capturing how well the company is doing (value added), What is missing in Free Cash Flow from DCF model ? 6
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Class Outline Introduction to Earnings: A measure of value added in a company Earnings vs Free Cash Flow 7
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DCF Model 8   FCF = C – I Missing: I is the source of value of creation but is subtracted from FCF. Value creation based on expectation of value to be generated in selling goods or service in markets.    
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Earnings 9 Earnings = FCF - i + Accruals + I Accrual accounting measures this value added Forecasted by analysts FCF = Earnings + i - I - accruals Why don’t we forecast earnings?
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Earnings and Cash Flows Rather than matching cash inflows and outflows, earnings match revenues and expenses. 1.
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This note was uploaded on 09/23/2009 for the course AEM 4280 taught by Professor Ng,d. during the Spring '08 term at Cornell University (Engineering School).

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428_lecture10_Earning__S09 - Valuation Class 10 DCF and...

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