Formulas Flashcards
Abnormal ROE Valuation of Firm in Steady State
If ROE is expected to remain constant and dividend policy constant (so Sustainable Growth Rate is constant)
MVE = BVE + BVE(ROE – re)/re – g
If all other forecast ratios are held constant, forecast growth rate for year t
forecast growth rate for year t will be the SGR for year t-1.
All relevant forecasting ratios (sales growth, profit margin, operating assets / sales, debt ratio etc) for the current year must have the same value as those ratios for the previous year for this generalisation to be true.
Sustainable Growth Rate
ROE x (1 - Dividend Rate)
Cost of Debt
Net Interest Expense / Average Net Debt
must be net of taxes b/c after tax cash flows are discounted
Forecast Abnormal Earnings in in particular year
Net Income - Cost of Equity x Opening BVE
Value of Firm with Forecast Abnormal earnings
Value of Firm =
BVE + PV(Abn Earn 1-10) + PV of Terminal Abn Earn Stream
Abnormal ROE
ROE - Cost of Equity
Growth BVE
Opening BVEt / Opening BVE in Year One (Beginning of Year 1/ day we are valuing the firm)
Valuation using Abnormal ROE

Terminal Value Under Abnormal ROE Method
3% terminal sales growth with persistent profit margin means
3% terminal sales growth with persistent profit margin means that Abnormal ROE stays the same, but BVE Growth Factor increases by 3% each year, so (Abn ROE x BVE Growth Factor) is growing by 3% forever
PV10 = 0.0185 / (0.0896 – 0.03) =0.3112
total value multiplier is
Multiplier (Years 1- 10) + Multiplier (Terminal)
ROE
Value of Equity is
BVE0 + 0.2233 (multiplier) x BVE0
Value per share =
FCFE / cost of equity
Given the assumed constant dividend policy and constant ROE,
Book value of equity will grow at the sustainable growth rate (SGR).
(Terminal)
for deferred tax effects what happens if the net effect on current profit is an increase?
If the net effect of adjustments is an increase in net profit,
Higher accounting profit = higher tax expense to be recorded
– Higher tax expense = lower current net profit after tax
– Change in After Tax Profit = -$2202 x Eff. Tax Rate = -$2202 x 29.5%
- Decrease Current Profit $649
- Decrease Deferred Tax Assets $649
for deferred tax effects what happens if the net effect on current profit is a decrease?
If the net effect of adjustments is an decrease in net profit,
Lower accouting profit = lower expense to be recorded
– lower tax expense = higher current net profit after tax
– Change in After Tax Profit = $2202 x Eff. Tax Rate = $2202 x 29.5%
- Increase Current Profit $649
- Increase Deferred Tax Assets $649
for deferred tax effects what happens if the net effect on opening retained earnings is a decrease?
Lower retained profits = lower prior period tax expenses
Lower tax expense = higher accumulated profits (retained earnings)
– Change in Accumulated After Tax Profit = $60,355 x 29.5% (Eff. Tax Rate) = $17,789
• Increase Opening Retained Earnings $17,789 • Increase Deferred Tax Assets $17,789
Reclassify Lease Liability - current v
non current
what this involves
PV of lease payments due within one year
Increase current liability
Decrease non current liability
Capitalise Closing Lease Liability and Asset
Increase Non-current assets
Increase non current liabilities
Add back rent expense associated with current year lease payments
if operating leases are brought onto the balance sheet, the rent expense associated with them should be removed. Eliminating an expense makes profit go up.
Lease payment at the end of pervious year = beginning of this year
Increase current profit
Decrease retained earnings
Recognise interest
PV of future payments at the end of last year/beginning of this year
Decrease current profit
Increase retained earnings
Recognise depreciation
PV of lease payments at the end of this year - adjustment for lease assets / remaining years
Reduce the asset value to 0 in remaining years
Decrease current profit
Increase retained earnings
OR cost of asset - 0 / useful life
net effect on current year profit of all of our adjustments is -$44.92 (Rent Adj + Int Adj + Dep Adj + Tax Adj), logically the opening retained earnings for next year (2017) should be adjusted
the net effect on current year profit of all of our adjustments is -$44.92 (Rent Adj + Int Adj + Dep Adj + Tax Adj), logically the opening retained earnings for next year (2017) should be adjusted by the same amount (-$44.92).
Dupont System
ROA
profit before leverage/ average total assets








