Equity Asset Valuation, Second Edition

CHAPTER 4

FREE CASH FLOW VALUATION

LEARNING OUTCOMES

After completing this chapter, you will be able to do the following :

• Define and interpret free cash flow to the firm (FCFF) and free cash flow to equity (FCFE).

• Describe, compare, and contrast the FCFF and FCFE approaches to valuation.

• Contrast the ownership perspective implicit in the FCFE approach to the ownership perspective implicit in the dividend discount approach.

• Discuss the appropriate adjustments to net income, earnings before interest and taxes (EBIT), earnings before interest, taxes, depreciation, and amortization (EBITDA), and cash flow from operations (CFO) to calculate FCFF and FCFE.

• Calculate FCFF and FCFE when given a company’s financial statements prepared according to International Financial Reporting Standards (IFRS) or U.S. generally accepted accounting principles (GAAP).

• Discuss approaches for forecasting FCFF and FCFE.

• Contrast the recognition of value in the FCFE model to the recognition of value in dividend discount models.

• Explain how dividends, share repurchases, share issues, and changes in leverage may affect FCFF and FCFE.

• Critique the use of net income and EBITDA as proxies for cash flow in valuation.

• Discuss the single -stage (stable -growth), two -stage, and three -stage FCFF and FCFE models (including assumptions) and explain the company characteristics that would justify the use of each model.

• Calculate the value of a company by using the stable-growth, two-stage, and three-stage ...