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Cash Flow Valuation: DCF Analysis and Sensitivity Insights

This module provides a comprehensive overview of cash flow valuation through Discounted Cash Flow (DCF) analysis, focusing on key assumptions regarding sales growth, Earnings Before Tax and Operating Income (EATO), and the cost of capital. It details steps in calculating Free Cash Flow (FCF) and conducting sensitivity analysis to evaluate how variations in assumptions influence valuation outcomes. The analysis demonstrates a significant disparity between current and calculated prices, illustrating the impact of differing growth rates and capital costs on investment decisions.

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Cash Flow Valuation: DCF Analysis and Sensitivity Insights

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  1. Module 5 – Cash Flow ValuationJunichi Hara

  2. Agenda • Forecast assumptions • DCF Analysis • Sensitivity Analysis

  3. 1. Forecast Assumptions

  4. Sales Growth Sales growth 3.68%

  5. EPM EPM: 4.05%

  6. EATO EATO: 3.45

  7. Projection • Sales g%: 3.68% RNEA: 13.96% • EPM: 4.05% • EATO: 3.45

  8. 2. DCF Analysis

  9. Step 1: Calculate FCF FCF ≡ EPAT - ΔNEA Cash flows from operations - Net capital expenditures Cash flows from operations + Δ Change in Accruals Cash flow from net capital investments + Δ Change in Accruals

  10. Step 1: Calculate FCF FCF ≡ EPAT - ΔNEA Cash flows from operations - Net capital expenditures Cash flows from operations + Δ Change in Accruals Cash flow from net capital investments + Δ Change in Accruals

  11. Step 2: Discount FCF Cost of Capital = 10%

  12. Step 3: Calculate Continuing Value Finite Portion

  13. Step 3: Calculate Continuing Value Cost of Capital = 10% Growth rate = 3.68% Continuing Value

  14. Step 3: Calculate Continuing Value

  15. Final Result

  16. Implications • Current price: $72.73 • Calculated: $58.16 • Not implausible… • But not too confident

  17. Doubts • Cost of capital: 10% • Sales growth (g) • EATO • Is this realistic??? • Too high? Too low? • Too pessimistic?

  18. 3. Sensitivity Analysis

  19. Cost of Capital • Cost of capital used:10.00% • Bloomberg (WAAC): 6.60%

  20. DCF Results

  21. Implications • Current price: $72.73 • Calculated: $148.73 • BIG difference • Why?

  22. Original Results

  23. New Results

  24. Sales Growth Sales growth 3.68%

  25. Sales Growth • Sales growth used: 3.68% • High (2013): 5.02% • Low (2014): 2.34%

  26. Sales Growth: 5.02% (High)

  27. Implications • Current price: $72.73 • Calculated: $76.36 • Much closer • 5.02% growth close to what market expects?

  28. Sales Growth: 2.34% (Low)

  29. Implications • Current price: $72.73 • Calculated: $46.37 • Not close at all • 2014 results non-recurring? • Why?

  30. EATO EATO: 3.45

  31. EATO • EATO used: 3.45 • Mid (2013): 3.50 • High (2011): 3.55

  32. EATO: 3.50 (Mid)

  33. Implications • Current price: $72.73 • Calculated: $71.75 • Very close! • EATO assumption makes a big difference

  34. EATO: 3.55 (High)

  35. Implications • Current price: $72.73 • Calculated: $84.96 • Further away (as expected)

  36. Conclusion • DCF lets us put $ on parsimonious forecasts • Very sensitive to assumptions • Sensitivity analysis helpful

  37. Questions?

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