DCF Valuation: FCF and EVA Models James L. Grant, Ph.D. JLG Research [email protected].
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DCF Valuation: DCF Valuation: FCF and EVA Models FCF and EVA Models James L. Grant, Ph.D. JLG Research [email protected]
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Transcript of DCF Valuation: FCF and EVA Models James L. Grant, Ph.D. JLG Research [email protected].
DCF Valuation:DCF Valuation:FCF and EVA ModelsFCF and EVA Models
James L. Grant, Ph.D.
JLG Research
FCF and EVA ValuationFCF and EVA Valuation
Free Cash Flow Formula
Generating Cash Flow Estimates
Valuation of Cash Flows
Cost of Capital Variation
EVA Valuation
Free Cash Flow Forecasting Equation (NOPAT Approach )
FCFt = St-1(1+g)p(1-tu) - (w+f)(St -St-1) = EBITt(1-tu) - (w+f)(St -St-1) = NOPATt - NET INVESTMENTt
Sales Base = 100Sales growth rate (g) = 15%; Pretax Operating Margin (p) = 20%Net capital investment (f) at 20% increased salesWorking capital additions (w) at 10% increased salesUnlevered tax rate = 35%
Source: JLG Research
Free Cash Flow Estimation: NOPAT Approach
Period 1 2 3 4 5 6 7 8 9 10
Sales 115.00 132.25 152.09 174.90 201.14 231.31 266.00 305.90 351.79 404.56
Op. Exp. 92.00 105.80 121.67 139.92 160.91 185.04 212.80 244.72 281.43 323.64EBIT 23.00 26.45 30.42 34.98 40.23 46.26 53.20 61.18 70.36 80.91Taxes 8.05 9.26 10.65 12.24 14.08 16.19 18.62 21.41 24.63 28.32NOPAT 14.95 17.19 19.77 22.74 26.15 30.07 34.58 39.77 45.73 52.59
NCapInv. 3.00 3.45 3.97 4.56 5.25 6.03 6.94 7.98 9.18 10.55Work Cap 1.50 1.73 1.98 2.28 2.62 3.02 3.47 3.99 4.59 5.28Net Inv. 4.50 5.18 5.95 6.84 7.87 9.05 10.41 11.97 13.77 15.83
FCF 10.45 12.02 13.82 15.89 18.28 21.02 24.17 27.80 31.97 36.76
Source: JLG Research
Free Cash Flow Estimation: GOPAT Approach
Period 1 2 3 4 5 6 7 8 9 10
Sales 115.00 132.25 152.09 174.90 201.14 231.31 266.00 305.90 351.79 404.56
Op. Exp. 92.00 105.80 121.67 139.92 160.91 185.04 212.80 244.72 281.43 323.64EBIT 23.00 26.45 30.42 34.98 40.23 46.26 53.20 61.18 70.36 80.91Taxes 8.05 9.26 10.65 12.24 14.08 16.19 18.62 21.41 24.63 28.32NOPAT 14.95 17.19 19.77 22.74 26.15 30.07 34.58 39.77 45.73 52.59Deprec. 0.90 1.04 1.19 1.37 1.57 1.81 2.08 2.39 2.75 3.17GOPAT 15.85 18.23 20.96 24.11 27.72 31.88 36.66 42.16 48.49 55.76
G.CapInv. 3.90 4.49 5.16 5.93 6.82 7.84 9.02 10.37 11.93 13.72Work Cap 1.50 1.73 1.98 2.28 2.62 3.02 3.47 3.99 4.59 5.28Gross Inv 5.40 6.21 7.14 8.21 9.44 10.86 12.49 14.36 16.52 19.00
FCF 10.45 12.02 13.82 15.89 18.28 21.02 24.17 27.80 31.97 36.76
Source: JLG Research
Free Cash Flow Valuation
Net Pres.Val. Cum. PVYear NOPAT Invest FCF 10% 0.00
1 14.95 4.5 10.45 9.50 9.502 17.19 5.18 12.01 9.93 19.433 19.77 5.95 13.82 10.38 29.814 22.74 6.84 15.9 10.86 40.675 26.15 7.87 18.28 11.35 52.026 30.07 9.05 21.02 11.87 63.887 34.58 10.41 24.17 12.40 76.298 39.77 11.97 27.8 12.97 89.269 45.73 13.77 31.96 13.55 102.81
10 52.59 15.83 36.76 14.17 116.9811 Plus 52.59
Residual Value 525.9 202.76
Corporate Value 319.74
LT Debt 12.00Equity 307.74Share OS 5.00Price 61.55
Source: JLG Research
Cost of Capital Sensitivity Analysis
Free Cash Flow Model
Basis Pt. % ChangeRate % Change Horiz.Val. Resid.Val. Corp.Val. Corp.Val.
8 -200 130.46 304.49 434.95 36.038.5 -150 126.89 273.65 400.54 25.27
9 -100 123.46 246.83 370.29 15.819.5 -50 120.16 223.38 343.54 7.4410 0 116.98 202.76 319.74 0
10.5 50 113.92 184.54 298.46 -6.6611 100 110.97 168.38 279.35 -12.63
11.5 150 108.13 153.98 262.11 -18.0312 200 105.39 141.11 246.50 -22.91
Source: JLG Research
JLG ResearchEnterprise Valuation and the Cost of Capital: Free Cash Flow Model
0.00
50.00
100.00
150.00
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-250 -200 -150 -100 -50 0 50 100 150 200 250
Change in Basis Points
Va
lue
Corporate Value
Residual Value
Horizon Value
Enterprise Value
Residual Value
Horizon Value
EVA Valuation Model
Economic Profit FormulaForecasting Economic ProfitNPV Valuation of EPCost of Capital VariationStandard Accounting Adjustments
Forecasting Economic Profit
Cost of Capital = 10%
Yearly Total Net Capital EconomicYear Net Inv. Capital NOPAT Charge Profit
0 401 4.5 44.5 14.95 4.00 10.952 5.18 49.68 17.19 4.45 12.743 5.95 55.63 19.77 4.97 14.804 6.84 62.47 22.74 5.56 17.185 7.87 70.34 26.15 6.25 19.906 9.05 79.39 30.07 7.03 23.047 10.41 89.8 34.58 7.94 26.648 11.97 101.77 39.77 8.98 30.799 13.77 115.54 45.73 10.18 35.55
10 15.83 131.37 52.59 11.55 41.0411 Plus 52.59 13.14 39.45
Source: JLG Research
Valuation of Economic Profit
Cum. PVYear EVA Pres.Val. 0
1 10.95 9.95 9.952 12.74 10.53 20.483 14.80 11.12 31.604 17.18 11.73 43.345 19.90 12.36 55.696 23.04 13.00 68.707 26.64 13.67 82.378 30.79 14.36 96.739 35.55 15.08 111.81
10 41.04 15.82 127.63
Residual 394.53 152.11Value
NPV 279.74Capital 40.00Corp.Val 319.74
LT Debt 12.00Equity 307.74Share OS 5.00Price 61.55
Source: JLG Research
Cost of Capital Sensitivity Analysis
Economic Profit Model
Basis Pt. % ChangeRate % Change NPV Tot. Cap. Corp.Val. Corp.Val.
8 -200 394.95 40.00 434.95 36.038.5 -150 360.54 40.00 400.54 25.27
9 -100 330.29 40.00 370.29 15.819.5 -50 303.54 40.00 343.54 7.4410 0 279.74 40.00 319.74 0.00
10.5 50 258.46 40.00 298.46 -6.6611 100 239.35 40.00 279.35 -12.63
11.5 150 222.11 40.00 262.11 -18.0312 200 206.50 40.00 246.50 -22.91
Source: JLG Research
JLG ResearchEnterprise Valuation and the Cost of Capital: Economic Profit Model
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-250 -200 -150 -100 -50 0 50 100 150 200 250
Change in Basis Points
Va
lue
Corporate Value
Net Present Value
Economic Capital
Enterprise Value
NPV
Invested Capital
Standard EVA Accounting Standard EVA Accounting AdjustmentsAdjustments
Operating leasesLIFO ReserveResearch and DevelopmentGoodwill AmortizationSpecial items (restructuring costs)(typically cited in CFA program)
JLG Research JLG Research Disclosed versus Basic EVADisclosed versus Basic EVA
Dow Jones IndustrialsDow Jones Industrials
Amount ($ mill.) %
Basic EVA 46,964.50 100.00
Effect of Operating Leases 127.54 0.27
Effect of R&D Expenses (4,094.55) (8.72)
Effect of LIFO Reserves (917.69) (1.95)
Disclosed EVA 42,079.80 89.60
*Equity betas in this analysis were set equal to 1.0
Illustration of Multiple Illustration of Multiple Regression AnalysisRegression Analysis
Top 50 US Wealth Creators
(And Destroyers)
JLG ResearchNPV/Capital versus EVA/Capital Ratio: 50 Largest Wealth Creators
y = 26.525x + 1.7762
R2 = 0.9269
y = -6.0078x2 + 36.573x + 1.3024
R2 = 0.9373
-10
0
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-0.2 0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2
EVA to Capital Ratio
MV
A to C
apital R
atio
Series1
Linear (Series1)
Poly. (Series1)
JLG Research
Dell
MSFT
KO
CSCO
INTC
MDT
JLG ResearchNPV-to-Capital versus EVA-to-Capital Ratio: 50 Largest Wealth Destroyers
-0.5
-0.45
-0.4
-0.35
-0.3
-0.25
-0.2
-0.15
-0.1
-0.05
0
-0.3 -0.25 -0.2 -0.15 -0.1 -0.05 0 0.05 0.1 0.15
EVA to Capital Ratio
MV
A to C
apital R
atio
Series1
JLG Research
AAPLDEC
SEG
TRANAV
IHS
NPV/Cap=a + b times EVA/Cap
Decile b (slope) R-Squared
1 18.57 67.37% 5 11.72 39.74% 6 2.99 10.57% 10 0.46 7.47%
Source: J. Grant, Foundations of Economic Value Added
Thank you!Thank you!
