Hello, my fellow monkeys,
While reviewing the FCF definitions in DCF and lbo models, I noticed that they are slightly differently calculated. Unfortunately I couldn't find an explanation for this and thus wanted to ask whether anyone can explain to me why different calculations are being used.
FCF calculation for DCF model:
EBIT
+ Amortization of non-deductible goodwill
= EBITA
- Taxes on EBITA
+ D&A
+ Changes in deferred taxes
- Capex
- Increase in NWC
= Unlevered FCF
FCF calculation for lbo model:
EBITDA
- Net Interest expense
- Income taxes (taken from taxable PBT)
- Capex
- Increase in NWC
= FCF
To me, there are mainly two differences in these calculations which I don't understand:
1.) Why do you start from EBIT in the DCF model but from EBITDA in the LBO model?
2.) Why do you restate the taxes in the DCF model by taking them from EBITA and in the LBO model you take them from the taxable income (= PBT + non-tax deductible interest expense)?
Maybe I am overseeing something and both are actually the same thing, but an explanation would be appreciated nevertheless.
Cheers!
There are multiple ways to calculate FCF. A DCF model doesn't necessarily need to start from EBIT and an lbo model doesn't necessarily need to start from EBITDA. You can also start from NI or Cash Flow from Operations, depends on your preference and the information you have available.
There main distinction is between Free Cash Flow to the Firm (FCFF)/unlevered FCF and Free Cash Flow to Equity (FCFE). In the case of your DCF model, you're trying to determine firm (enterprise) value you need to use FCFF.
Your calculation in your LBO model is FCFE (assuming no repayment of principal) since you're taking out your interest expense.
I agree with the above. Normally, these models are looking for different outputs. The DCF wants to determine the value of the company based on the discount rate used. But the LBO is trying to determine the discount rate based on the purchase price of equity. So, you are essentially looking at two different types of FCF, unlevered vs levered because LBOs need to take into account the return after debt holders are paid. OTH, DCF valuation for IB purposes wants to know the total price including debt.
try to understand the concept of FCF/DFCF, rather than memorizing a formula.
In case its still relevant, the difference in taxes comes from the tax shield considerations in DCF vs. LBO.
Hope this helped a bit.
Cheers, Loldemort
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