Increase in Cap-ex decreases your EV in DCF but increases your EV when moving from Equity value to EV?
Here is a question from 400 question book.
We're creating a DCF for a company that is planning to buy a factory for $100 in cash (no debt or other financing) in Year 4. Currently the present value of its Enterprise Value according to the DCF is $200. How would we change the DCF to account for the factory purchase, and what would our new Enterprise Value be?
In this scenario, you would add CapEx spending of $100 in year 4 of the DCF, which would reduce Free Cash Flow for that year by $100. The Enterprise Value, in turn, would fall by the present value of that $100 decrease in Free Cash Flow.
The actual math here is messy but you would calculate the present value by dividing $100 by ((1 + Discount Rate)^4) – the "4" just represents year 4 here. Then you would subtract this amount from the Enterprise Value.
The explanation makes sense. But if I ask you "But I thought if you buy $100 factory with $100 cash, your EV should increase because you are exchanging $100 non-core asset for $100 asset that is core to your operation." How would you respond to that?