Advanced valuation techniques

Advanced valuation techniques - ASICS 401 - Mitton ASICS...

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Unformatted text preview: ASICS 401 - Mitton ASICS 401 Advanced valuation techniques ASICS 401 - Mitton 2 Advanced valuation techniques 1. Adjusted Present Value What do you do when financing and/or tax implications of a project are very complicated? 2. Introduction to Real Options What do you do when the project being valued may optimally take different directions, based on information learned later? ASICS 401 - Mitton 3 1. APV: An alternative to WACC Weighted Average Cost of Capital (WACC): Discount the FCF using the weighted average of after- tax debt costs and equity costs Discount rate accounts for tax shield of debt Adjusted Present Value (APV): Value the project as if it were all-equity financed Add the PV of the tax shield of debt (and any other financing implications) separately ASICS 401 - Mitton 4 APV the particular version of DCF that has been accepted as the the particular version of DCF that has been accepted as the standard over the past 20 years using the weighted-average cost standard over the past 20 years using the weighted-average cost of capital (WACC) as the discount rate is now obsolete. of capital (WACC) as the discount rate is now obsolete. True, business schools and textbooks continue to teach True, business schools and textbooks continue to teach the WACC approach. But thats because its out there as the the WACC approach. But thats because its out there as the standard, not because it performs best. Today those same schools standard, not because it performs best. Today those same schools and texts also present alternative methodologies. One alternative, and texts also present alternative methodologies. One alternative, called called adjusted present value adjusted present value (APV), is especially versatile and (APV), is especially versatile and reliable, and will replace WACC as the DCF methodology of reliable, and will replace WACC as the DCF methodology of choice among generalists. choice among generalists. ASICS 401 - Mitton 5 Potential benefits of APV More informative than WACC: can provide more information by breaking down value into components More flexible than WACC: easier to handle changing capital structures or other effects of financing More error-proof than WACC: because WACC hides so much information in one discount rate, spotting errors is more difficult ASICS 401 - Mitton 6 APV = Valuation by Parts Step 1: Value as if 100% equity financed Generate the Free Cash Flows (FCFs) Calculate the all-equity cost of capital for the project, K A , i.e.,the discount rate that would be appropriate if the project were all-equity financed....
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Advanced valuation techniques - ASICS 401 - Mitton ASICS...

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