DCF question- getting different answers for the same situation
Hi,
This is a conceptual question. I am confused with a DCF situation. The attached Excel file shows my calculations.
I am trying to do a very simple three-period DCF by two methods: 1. deducting interest expense from cash flow 2. accruing interest expense to debt. However, for some reason the two methods are giving me different answers (the yellow cells show the answer). Theoretically, both of them should yield the same answer. Can anyone here please help me understand what I am doing wrong?
Thanks.
| Attachment | Size |
|---|---|
| DCF question.xls 60 KB | 60 KB |
can you please make this a little less messy ? sometimes people are turned off if presentation of the model isn't that good.
Your model is taking into account that when you accrue interest expenses, the interest gets compounded as well. If you set the interest rate to 0%, you'll notice that both answers are equal now.
In the first case I am deducting the interest expense (@5%) before discounting back the cash flow. In the second case, I am increasing the debt amount by the same rate. Conceptually, both treatments are the same.
For some reason I am not able to remove the old file and upload a new file.
Why are you discounting FCFF by the Cost of Equity and not your discount rate (WACC). I know this is supposed to be Unlevered Cash Flow (right?), so in that case, cost of equity is the right discount rate, but FCFF implies that you are measuring by cash flow to the firm (or debt and equity holders). Which in that case, should be WACC to account for cost of debt and equity...
Levered for Equity Value --> use Cost of Equity Unlevered for EV --> use WACC.
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