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FCFE

FCFE

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Published by Shreya Shah

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Published by: Shreya Shah on Feb 29, 2012
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09/19/2014

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Valuation methodologies ƒ ƒ ƒ Relative valuation Asset based valuation Discounted Cash Flow .

ƒ It is the present value of future cash flows discounted at a specific risk adjusted rate It is the value derived from future earnings It can also be applied to companies with negative earnings/net worth ƒ ƒ .

ƒ ƒ ƒ Current & targeted capital structure Market view of business risk Terminal growth rate . Free cash flows to equity holders (FCFE) ƒ Discount rate 1.ƒ Projected cash flows generally 4-6 years 1. Cost of equity in case of FCFE. Weighted average cost of capital (WACC) 2. Free cash flows to firm (FCFF) 2.

company performance Determine .Enterprise or Equity value .financial projections Calculate .FCFF & WACC / FCFE & cost of equity Primary value .what to value Develop .ƒ ƒ ƒ ƒ ƒ ƒ ƒ Analyse .sum of discounted free cash Estimate & calculate terminal growth rate & terminal value Derive .

ƒ ƒ FCFF (Free cash flow to the firm) FCFE (Free cash flow to equity) .

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It is the cash flow from operations net of capital expenditures and debt payments (including both interest and repayment of principal). FCFE Operating cash flows Less: Investments in fixed capital Add: New debt borrowing Less: Debt repayment Free cash flow to equity .ƒ Cash available to stockholders after payments to and inflows from bondholders.

Since FCF model is based on the capital exceeding operational needs. Many companies have negative free cash flow for years due to large capital demands. . In contrast to dividends.ƒ ƒ ƒ ƒ ƒ ƒ ƒ Wide applicability for different dividend and financing policies. Disadvantages: If FCF < 0 due to capital demands. when actual dividends differ significantly from FCFE. This model is preferable to DDM models. it is useful for valuation of control ownership that allows investors to redeploy this capital. Since prediction of free cash flow far in the future would be imprecise. FCF model cannot be used for growth companies. Free cash flow always reflects the capital that can potentially be paid out to shareholders. a record of free cash flows is observable for any company. notwithstanding the dividend policy.

ƒ FCFE = Net income + non cash charges (income) capital expenditure + net borrowings .

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