Change in NWC in Terminal Value
Hi,
I was wondering how (or if) the change in NWC effects the Terminal Value.
I understand that in a DCF NWC has a slightly different definition (does not include Cash and short term debt).
When calculating TV I dont include D&A and Capex (becasue they should zero out in the long run) - but shouldn't the same thing happen for change in NWC?
Thanks for your answer,
Chris
What exactly are you talking about? Terminal Value in a DCF? You project out FCF in the first 5 or so years, and also calculate the changes in NWC using DSO, DPO etc. for the assets/liabilities being analyzed.
So, NWC is really only in effect for those projection, or growth, years. For TV, you are not projecting out NWC since you are simply just applying a perpetuity growth rate to your terminal year, or using an Exit multiple from a comps list to get your TV. So basically, NWC is assumed to stay constant during the steady-growth period. I am not sure what you are talking about saying how you dont include D&A and Capex? You may have to elaborate. It is already factored in the TV calculation due to the applied growth rate or multiple from your terminal year, in which NWC, D&A, CapEx etc. is already projected and calculated.
I may have misunderstood your question completely, so I apologize if that is the case. Please elaborate on what you are looking for.
You will still need additions to net working capital in the terminal year, so it should be included (or removed) in the calculation of cash flow in the terminal year. You are right, D&A and capital expenditures will zero out, or capex will be slightly higher than depreciation. Be sure to include depreciation in the operating income calculaton though.
.
Thanks for your answer.
Could you please explain to me why we include change in NWC.
I don't understand why we do not include capex and D&A but include NWC - for me the reason not to include capex and D&A is the same as why we should not include change in NWC (in the long-run change in NWC should be zero)
Thank, Chris
I am baffled by what you are asking here. Terminal value is a simple calculation using the last year's FCF (Gordon Growth) or EBITDA (multiple method). That final year includes adjustments to NWC, D&A and CapEx if you are using the Gordon Growth method since you are using unlevered FCF.
That's not true, TV using the Gordon does not include D&A and Capex (or they zero out) and my question is why it includes change in NWC.
Thanks, Chris
You are doing it wrong then.
Year N's UFCF*(1+g)/(r-g)
The last year's UFCF already accounts for the changes in CapEx, D&A and NWC. Again, the terminal value does not incorporate any of those changes beyond the last period's UFCF you are using.
Perhaps people are just modeling it differently? peinvestor, are you presenting a "terminal year" in your model? Or are you just capitalizing the cash flows in your final year. I have a feeling that is the cause of the confusion in the conversation..could be wrong though.
I am assuming you are just capitalizing the final year of cash flow, and not necessarily showing a "terminal year". The OP is showing the terminal year from my understanding.
Look,
When you are building a dcf, you project your UFCF for let's say 5 years and then add a colum let's call it stable - the "stable" UFCF is used to determain the TV.
"Stable" UFCF does not include Capex and D&A because in the long-run capex = D&A but you do include change NWC.
My question is why do you substrate change in NWC in determaining the "stabel" UFCF - because as I see it in the long run change in NWC should be zero ?
I don't need a lesson in what I am doing wrong because I am not doing anything wrong...
The change in future revenue would require a change in net working capital. You aren't projecting flat revenue going forward.
I'm with @peinvestor2012 on this one.
They are both the same. Just different ways of modeling.
Thanks for your answer!
But I just cannot wrap my head around it.
You are saying because I have positive growth in the future I need to subtract change in NWC - with growth usually comes an increase in change in NWC - right?
But I don't quite get the long-term connection to TV
Especially in contract to capex = D&A.
Thanks, Chris
If I could attach a model I would to show it. If anyone is confused and cares to see PM me.
Also, the reason you would show it with a terminal year is if your final discrete period year is not on a normalized level.
I'm over trying to help the arrogant OP. If he can't even figure out a DCF, he has no chance with an LBO.
you do realize that the impact of this on your actual valuation is negligible right? otherwise, your terminal value is too big a portion of your dcf.
yes but what if wokring capital increases year by year?
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