Terminal Value Flashcards
Long term growth rate
expected real interest rate = LT bond yield
Retention ratio
Expected growth rate/Return on equity
Therefore:Expected Growth Rate=Retention RatioX ROE
Equity reinvestment rate(FCFE)
Expected growth rate/Return on equity
Therefore:Expected growth Rate=Equity Reinvestment X ROE
Reinvestment Rate in stable growth (FCFF)
Stable growth rate/ Stable period Return on capital
Therefore Expected growth rate = Reinvestment Rate X ROC
Terminal valuen
Free cash flow to firm n+1 /(Cost of capitaln+1−gn)
gn=Reinvestment rate X return on capital
TV for FCFE
EBIT (1-t) (1- g/ROE)/ (Cost of equity –g)
g-Expected growth rate
ROE-Return on Equity
TV for FCFF
EBIT (1-t) (1- g/ROC)/ (Cost of capital –g)
g-Stable growth rate
ROC-Stable period of ROC
Liquidation Value Approach
Book Value of Asset X (1+inflation)average life of assets
Note: BV may not be accurate hence use Cashflow after tax cashflow
Terminal Value ROC=WACC
EBIT n+1(1-T)Cost of Capital n
Use this when WACC=ROC means you assume company has no comparable advantage in long run.
3 Factors to consider when looking at growth rate
- Size of the firm
- Existing Growth Rate
- Magnitude and sustainability of competitive advantages
What factor contribute to excess return over long period?
STRONG BRAND NAME
Think P&G
Adjusted Value for Survival (For younger and small firms)
Adjusted value =Discounted cash flow value(1−Probability of distress) +Distressed sale value(Probability of distress)
Cash burn ratio(measure of potential cashflow problem)
Cash balance/EBITDA