corporate valuation - dcf examples

7/29/2019 Corporate Valuation - DCF Examples

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DCF - EXAMPLES


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Example 1 Con ED

Power company for New York

Regulated firm in a developed state

Matured company growing at stable growth rate

Characteristics confirming stable growth: Beta = 0.8 & stable over time

D/E = Same over the years (Therefore, can go for FCFE)


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Example 1 Con ED

Average annual FCFE (Last 4 years) = US$654m

Average annual dividends in this period = US$638m

Thus, on an average Potential Dividends = ActualDividends (i.e. all earnings paid out as dividends)

Therefore, we value using stable state DDM model


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Example 1 Con ED

EPS last year = US$2.86

Payout Ratio = 81.27%

Therefore, DPS = 2.3$

Therefore, Reinvestment rate = 18.73%

Expected growth rate in earnings (Terminal Growth rate) = 2%

US Rf= 4.7%, ERP = 4%

COE = 4.7 + (0.8)(4) = 7.9%


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Example 1 Con ED

Value of Equity per share:

[(DPS) * (1 + GR)]/[COE GR]

2.3 * 1.02 / (7.9% - 2%) = US$ 39.69 per share

Stock was trading at US$47.53 pershare


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Example 1 Con ED

Check what your valuation depends heavily on

Be careful on choosing that value

Back test to find out the growth rate that would yield aprice around 47$

Recheck which is a more plausible growth number


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Example 1 Con ED

3% implied growth rate

Which one to choose? 2% or 3%?

ROE = 10%


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Example 2 - ABN Amro

Almost impossible to adopt an FCFE approach

Cant estimate: Capex

Depreciation

Working Capital

Only option you got is DDM


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Current ROE = 16%

Reinvestment rate = 51.35%

Therefore, Growth rate = ~8.2%

Not sustainable till perpetuity

Hence we choose a 2 stage DDM model


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High Growth Stable Growth

Duration (no. of Years) 5 Forever after 5

Beta 0.95 1

Cost of Equity 4.35 + 0.95 (4) = 8.2% 4.35 + 1 (4) = 8.35%ROE 16% Assumed same as COE

= 8.35%

Payout Ratio 48.65% ?

Reinvestment Rate 1 48.65% = 51.35% ?Expected Growth RR * ROE

51.35% * 16% = 8.2%

4% (Assumed)


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Filling the table:

Growth rate = RR * ROE

Therefore you can calculate RR

Hence, Payout ratio = 1 - RR


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Year EPS DPS PV (@8.15%

Discount Rate

1 2 2 * 48.65% = 0.97 0.9

2 2.17 2.17 * 48.65% =

1.05

0.9

3 2.34 2.34 * 48.65% =

1.14

0.9

4 2.54 2.54 * 48.65% =

1.23.

0.9

5 2.75 2.75 * 48.65% =

1.34

0.9


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Stable state Workings

EPS in year 6 = ?

DPS in year 6 = ?

Terminal Value (DDM)

Earnings / (DR GR)

1.49 / (8.35% - 4%) = 34.2

PV of TV = 34.2/(1.0815^5) = 23.11EUR


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To calculate the PV of TV, we use growth phase COE (8.15%). Why?

Calculating the value per share:

Value in first 5 years:

0.9 + 0.9 + 0.9 + 0.9 + 0.9 = 4.5EUR

TV = 23.11EUR

Total Value = 23.11 + 4.50 = 27.61 EUR


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The stock was trading at 18.55EUR

Ask the same questions: What really doesmy valuation figure heavily depends upon?

16% ROE in high growth phase ~8%excess returns.


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Example 3 - Nestle

A multinational company so risk not just dependent on operations inhome country

Based on fundamentals, Growth rate works out to 11% (RR * RoE)

Therefore, not sustainable, use 2-stage model

Like most European companies, doesnt payout as much dividends as it

potentially can so rule out DDM

D/E stable in 35-40% range stable hence can use FCFE instead of FCFF


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Example 3 - Nestle

Inputs

Rf= 4%Current EPS = ~109 SFR

Revenue/share = 1,820 SFR

Capex/share = 114.2 SFR

Depreciation/share = 73.8 SFR


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Example 3 - Nestle


Beta 0.85 0.85

ROE 23.6% -

RR 65.1% -

Expected Growth 15.4% 4% (assumed)

WC/Revenues (avg) 9.3% (existing) 9.3%

Debt/Equity 37.6% 37.6%

Capex/Depreciation Current Ratio 150%


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Example 3 - Nestle

What ERP do you use?

Operating in different countries

4% Swiss ERP would be wrong

ERP would be more in developed countries like India

Used ERP = 5.35% (Based on Average of various countries ERP)

COE = 4% + (0.85 * 5.25) = 8.47%


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Example 3 - Nestle

Earnings per share in Year 6 = 222.06 * 1.04 = 231.57

Net Capex = 73.8*(1.154)^5*1.04*0.5 = 78.5

Change in WC = (Rev6-Rev5)*9.3% = 13.85

FCFE6 = 231.57 78.5 (1-37.6%) - 13.85 (1-37.6%) = 173.9

TV per share = 173.9/(Terminal COE Terminal GR) =173.9/(8.47% - 4%) = 3890

Share Price value = 3890/(1.0847^5) + 74 + 78.8 + 83.8 + 89.1 + 94.7 =3011

Share was trading at 2906


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Example 3 - Nestle

Checking on 4% Terminal growth rate

Can you calculate the ROE assumed in stable till perpetuity?

GR = RR * ROE

Year 6: EPS = 231.57

FCFE = 173.9

Therefore, Amount reinvested = 231.57 173.9

RR = ~25% of earnings

Therefore, ROE = 4%/25% = 16%

If you think 16% ROE is not sustainable till perpetuity, tweak your Terminalgrowth rate accordingly


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Example 4 Tsingtao Breweries

Chinese growth story

Currently in huge investments phaseROEs extremely low

Cash flows negative

3-stage growth model

Cant trust Chinese markets on dividends, so FCFE


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Current Earnings = 72.36m

Capex = 335m

Depreciation = 204m

Normalized WC = 52.3m

Normalized Reinvestment rate = Net Capex + IWC

Average D/E = 41%

Assume that ROE will improve over time


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High Growth Transition Phase Stable Growth

Period (Years) 0 - 5 5 10 Forever after 10

Beta 0.75 0.8 0.8

ERP 6.28 6.28 5.0

ROE 2% 12% 12% 20% 20%

RR 150% 50% 50%

GR 45% 10% 10%


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Equity RR = RR (1-DR)/NI

Equity RR = 183.3 * (1-0.42)/72.36 = 150%

GR = Equity RR * ROE+

[1 + (ROE5-ROEtoday)/ROEtoday]^(1/5)

Beta would be lower as it is a beer company

Since RR > 100%, Cash flows are negative


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Calculation of TV

Stable growth rate = 10% (Risk free rate in China

was 12%; so 10% is high yet within bounds)

RR = 50% (Since, RoE = 20%)

FCFE11 = 1331.8*1.1(1-0.5) = 732.5

TV = FCFE11/(COEstable GRstable)

TV = 732.5/(14% - 10%) = 18,497m


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Valuing Tsingtao Equity

Value per share = -186.65+

18,947/(1.155 * 1.146 * 1.14 * 1.14 *1.14 *1.14) = 4596m

No. of shares = 653.15m

Value per share = 7.04

Stock was trading at 10.10


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Example 5 Daimler Chrysler

Mature firm in a mature industry

Merger of Daimler with Chrysler

Daimler Low leverage philosophy

Chrysler High leverage philosophy

We do not know which philosophy will play out in the combined entity

Therefore, use FCFF


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Inputs

EBIT = 9324m

Tax rate = 46.94%

ROCE (After Tax) = 7.15%

MV (Eq) = 62.3b

MV (Debt) = 64.5b

Beta (Industry average) = 0.61

10 year German Bond yield = 4.87%

ERP = 4%

Long term Growth Rate = 3%


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Reinvestment Rate

GR = RR * ROCE

RR = GR/ROCE = 3%/7.15% = ~42%

COE

Levered Beta = 0.61[1 + (1-46.94%)(64.4/62.3)]= 0.945

COE = 4.87% + 0.945(4%) = 8.65%


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COD

After tax COD = (4.87+0.2) * (146.9%) =2.7%

COC

[8.65 (62.3) + 2.69(64.5)]/(62.3+64.5)

COC = 5.62%


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FCFF

EBIT (1-t) = 9324 (1.03) (1 46.94%)= 5096 DM

Reinvestment = 5096 * 42% = 2139mTherefore, FCFF next year = 2957 DM


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Valuing the firm

Value of operating assets = 2957/(5.6%-3%)

=112,847m DM

+ Cash and Cash Equivalents = 18,068m DM

Value of the firm = 130,915m DM

- Outstanding Debt = 64,488m DM

Value of Equity = 66,427m

Value per share = 72.7 DM

Stock was trading at 62.2 DM


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Example 6 - Embraer

An emerging market company (BrazilianAirlines industry)

Healthy growth rate

We use a 2-stage FCFF model


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Example 6 - Embraer


Beta 1.07 1

Debt Ratio 15.93% 15.93%

ROCE 21.85% 8.76%

COC 9.81% 8.76%

Expected Growth Rate 5.48% 4.17%

Reinvestment Rate 25.04% 4.17%/8.76% = 47.62%


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Example 6 - Embraer

Assumption of ROCE = COC is aconservative assumption

Why high ROCE today?

Does the competitive advantage changeover a period of time?

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