DCF Question
Hi all, this might be a dumb question but would appreciate if you could help with the following:
In a DCF we discount Unlevered FCFs with WACC to arrive at PV of UFCFs. We then sum the PV of UFCFs up, subtract debt and add cash to arrive at Equity Value which we then divide by shares outstanding to arrive at Equity Value per share
If I just discounted Levered FCFs with the Cost of Equity, sum up the PV of LFCFs and divided by shares outstanding, will I arrive at the same number as the above?
Yes. Provided there are no mathematical errors in between and you have a constant capital structure for DCF, you should come at the same number.
Unlevered one represents CFs to all stakeholders and is simpler because you can simply subtract PV of debt and not deal with interest payment every year.
edit: also you have to make sure it is CF to equity. If you have minority interest and preferred stocks with divs, it is a further headache. Lot simpler to subtract everything in PV terms from unlevered.
if you are bullding a 3-statement, you will need to model all the headache anyway. And depending on your assumptions in the future (that impact the elements of the capital structure in some way), slightly different number might occur. But DCF assumes constant capital structure, and it is lot easier by using unlevered.
You would need to add cash, but I think so, yes. You’d probably get a small difference because in reality your debt/capital ratio isn’t exactly the same for all years, but if that was the case you’d get the same answer.
Why would you add cash if you derive TEqV from LFCF?
He’s wrong don’t add cash. Using levered FCF directly gets you implied equity value
Because OP posted in his message that when he gets equity value by difference, he takes the PV of UFCF and then substract debt and add cash. If you take the PV of the LFCF, you'd still need to add the cash to get to the same answer.
I would not expect to calculate precisely the same share price. Your levered FCFs (and thus your valuation) can vary based on the interest expense, debt amortization, and tax rates. So I wouldn’t be surprised if you wound up with somewhat different valuations.
But if you are changing interest expense, tax rates, and debt amortization, basically you are modifying the capital structure in some way. In a DCF, you assume a constant capital structure.
In an evolving scenario, a DCF would not be applicable any way. Either gotta use APV or CCF.
you calculate lfcf by subtracting interest expense and net debt repayment. your taxes also reflect interest expense. that is my only point.
this doesnt have to reflect a changing capital structure - you could easily assume no net debt repayment in every year.
You absolutely should not expect the same number. Large variation can happen
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