Discounted Cash Flow Modeling Questions and Answers
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Discounted Cash Flow
Institution
Discounted Cash Flow
What is the definition of Enterprise Value? The value of the operating business (operating assets minus operating liabilities) 1. Operating Assets (Usually all assets except for cash and other investment assets) 2. Operating Liabilities (usually all liabilities except for debt and debt-like liabili...
Discounted Cash Flow Modeling
Questions and Answers
What is the definition of Enterprise Value? ✅The value of the operating business
(operating assets minus operating liabilities)
1. Operating Assets (Usually all assets except for cash and other investment assets)
2. Operating Liabilities (usually all liabilities except for debt and debt-like liabilities)
3. Enterprise Value doesn't equal the value of the entire business.
What is the definition of Net Debt? ✅Net Debt represents the Net Current Obligations
from Non-Operating Line Items. (All current debt obligations minus cash)
What is the definition of Equity Value? ✅This is the value of the portion of the company
that goes back to all equity owners in the company. This is the Net Enterprise Value
after all debt obligations are theoretically paid off.
What are the two main frameworks for valuation? ✅Intrinsic Valuation (DCF) and
Relative Valuation (Comps)
What is the definition of Intrinsic Valuation (DCF)? ✅This is derived from the
fundemental analysis of the company's cash flow generation potential
What is the definition of Relative Valuation (Comps)? ✅This is derived by comparing a
company to its comparable peers.
What is the definition of cash flows? ✅This is one of the annoying sticking points in
finance. There are a million definitions for cash flows. The one WSP uses is:
Cash Flows = Operating Cash Flows - Required Cash Reinvestment
1. Operating Cash Flows: Cash flows that come from the core operations of a business
2. Required Reinvestments: Cash Reinvestments required to sustain the business's
expected rate of growth
Which is better to use, DCF modeling or Comps modeling? ✅The answer is both. In
theory, they should get to the same answer. This would be the case if every company
was valued at their intrinsic value on the market. However, companies are sometimes
overvalued and undervalued on the market. It helps to have DCF as a way to calculate
the value without relying on the market. On the other hand, if you use incorrect growth
drivers (such as an incorrect growth rate) then your DCF model will be skewed. It is
important to use both options together to build a more complete picture of the real value
of the company.
, What are the big DCF implementation Challenges? ✅1. There is no real consensus on
how to implement DCF
2. Cost of Equity calculations are hotly contested
3. It requires detailed company financials that you might now always have available
4. A DCF is very sensitive to changes in operating, terminal value, and cost of capital
assumptions
What is the difference between Unlevered and Levered DCF modeling? ✅1. Unlevered
DCF modeling is for valuing the Enterprise Value. This is because Enterprise Value is
valuing the firm's value for all providers of capital.
2. Levered DCF modeling is for valuing the Equity Value of the firm directly. You factor
in the debt payout so you can isolate the value of the firm that is going back to equity
holders only.
3. The other distinction to make is an unlevered DCF approach is only valuing assets
and liabilities related to the firm's core business operations. A levered DCF approach
also factors in non-operating income and expenses.
What is the difference between a levered and an unlevered FCF? ✅An unlevered FCF
is the remaining free money (normally EBIT) after adding back non-cash expenses and
subtracting required reinvestments. A levered FCF takes the unlevered FCF and
subtracts the current debt obligations and interest payments.
How do you convert the Enterprise Value to the Equity Value? ✅You subtract Net Debt
from the Enterprise Value to arrive at the Equity Value
What is the formula for calculating an unlevered FCF for a given period? ✅1. Start:
With EBIT (also called operating income)
2. Subtract: Taxes (don't use normal taxes. multiply EBIT*(1-taxrate) to get to taxes for
this calculation)
3. Equals: EBIAT (also called unlevered net income, NOPAT)
4. Add: Depreciation and Amortization
5. Subtract: Increases in Working Capital Assets
6. Add: Increases in Working Capital Liabilities
7. Subtract: Capital Expenditures
8. Subtract: Other Required Investments
9. Equals: Unlevered FCF
Explain what an Unlevered FCF is to the company conceptually. ✅UFCFs are cash
flows from the operating performance of the business, before any effects of leverage or
non-operating assets are factored in.
UFCFs are a company's cash flow AS IF it was an all-equity financed company with no
non-operating assets.
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