Notes Corporate Valuation
Restructuring, M&As
Lecture 1
Accounting-based balance sheet (history
based). E.g. what did you pay for your
assets (-/- depreciation).. Equity over here
is also about the amount you used to get
for your shares.
The basic model of a firm is as follows
(value-based). This one is future-based.
This one is what makes your company
valuable. The left side represents where
the core value is generated. And in
financial markets, we distribute the
cashflows to the providers of the money.
The other assets is something we take
from the accounting-based balance sheet: cash.
We need to to obtain the actual Cash related to Operations, Investments and Financing. The total
result of these three should lead to the change in the cash position on the balance sheet.
The Operating Cash Flow follows the Income Statement until EBIT, but then starts to deviate:
In the Income Statement, after EBIT we subtract Interest: but this is Financing not Operating. Thus we
skip interest and leave it for the Financial Cash Flow. Next, looking at the Income Statement, we
subtract Depreciation before EBIT, but this is a non-cash item! So we add Depreciation back again.
Then, looking at the first rows in the Income Statement, these do not all reflect cash. Sales: is not
cash if there are Accounts Receivable (AR). COGS & SGA: is not cash if there are Accounts Payable
(AP). Sales & COGS: may need more cash if there Inventories.
These three items: AR, AP, and Inventories, are known as Working Capital:
Working Capital = AR + Inventories -/- AP.
If there is an increase in Working Capital, then EBIT is higher than the cash we actually received from
our operations ! Thus, we need to subtract the change in Working Capital.
Correcting for these three items (interest, depreciation, change in working capital) leads from EBIT to
Operating Cash Flow. So Operating CF: EBIT – Tax + Depreciation – Change in Working Capital.
Next look at the Investment Cash Flow. This is Fixed Assets this year -/- Fixed Assets last year +
Depreciation.
Lastly, there’s financing cashflow. This is determined by flows to and from Debt and Equity. Interest
payments follow from the income statement. Then we can look at the level of debt this year and last
year. You can check if debt has been paid back.
Equity repurchased = Equity this year -/- Equity last year -/- retained earnings. If this is negative, you
got more equity.
So financing cashflows = Interest paid (out)+ Debt repaid (out) + Dividends (out) + New equity (out)
=…
1
,The sum of operating cashflows, investment cash flows and financing cashflows is the total change in
cash. This was an accounting perspective.
From a Finance (Financial Management) perspective the concept of Free Cash Flow is much more
important !! This is not about the Cash that was generated in the past. It is about the Cash that is
going to be generated and that is available to both Equity and Debt. It is mainly a combination of the
Operating and Investment Cash Flow.
We start by constructing the Free CF (or CF from Assets) as if there is no Debt (100% Equity). This way
we can decide on the Debt/Equity at a later stage. So there is no financing effect in the Free CF !!
Since we want the Free Cash Flow to be freely available to Equity (and Debt), it is a CF after
investments.
We start by copying the Income Statement until EBIT. We pretend as if there is only Equity, no Debt.
This means we apply the tax rate to total EBIT !!
NOPAT = Net Operating Profit After Tax = EBIT x (1 – Tax).
Next we need to make adjustments for non-cash items. And subtract investments. The first non-cash
item to adjust for is Depreciation. NOPAT + Depreciation is known as Gross Cash Flow.
Other non-cash items are related to Accounts Receivables, Inventory, and Accounts Payable – as
before. This is the Change in Working Capital. Working Capital is “capital” that is needed to run your
Business. Working Capital = AR + Inventories -/- AP. Finally, there are Capital Expenditures. Those are
investments in fixed assets. Again: Fixed assets this year -/- fixed assets last year + Depreciation.
So for Free Cashflow: NOPAT + Depreciation + Change in Working Capital – Capital Expenditures. This
Free Cashflow is available to all investors (equity and debt).
We applied the tax on equity only, so there’s no tax benefit on debt in the Free Cash Flow. This will
be corrected later in the discount rate by taking the after tax interest rate: Interest * (1-tax).
The Free CF will be divided between Equity and Debt. First, we construct the free CF as if there’s no
debt. So there’s no financing effect in the Free CCF. We want the Free CF to be freely available to
equity (and debt), so it’s the CF after investments (ΔWC and CAPex can be found on the managerial
balance sheet).
Looking at the income statement itself tells us how profitable a firms is in terms of efficiency. We can
combine the income statement with the balance sheets, which gives us profitability in terms of
invested capital (derived from the managerial balance sheet).
To look how efficient we use our capital (what revenues do we generate with our capital):
Capital turnover = Sales / Invested capital
How (cost) efficient are we?
Operating margin = EBIT / Sales
Then, the first profitability measure.
Return on Invested Capital (before tax) = ROIC BT = Op. margin * Cap turnover
= EBIT/Sales * Sales/Invested capital
2
, Lecture 2
Finance says that operating CF is a better tool to see how the company is running. On the other hand,
accountancy looks to EBIT as the performance measure.
In a managerial balance sheet, you put the working capital on the left side of the balance sheet. So
you won’t see A/P, A/R or Inventory separately on this balance sheet. On the managerial balance
sheet: Fixed assets + working capital is then invested capital.
Fixed Assets Equity
Working Capital Debt note, there’s no short-term debt
CWash anymore (it’s in WC)
-----------------
Invested capital
Managerial balance sheet = Fixed assets + working capital.
Value based balance sheet = discounted FCF in the future (based on the k (discount rate with 100%
equity). The difference between managerial balance sheet and value based balance sheet is called
the NPV. NPV is about making a financial
If you look at the difference between market value balance sheet (Discounted FCF, That’s the V U) and
the managerial balance sheet, you find the market value added.
Market value balance sheet your discounted FCF is the sum of market value of equity + debt.
Lecture 3
Reminder: Taxes is on EBIT (as if it’s only 100% equity), not the real taxes!
Gross cash flow + Δworking capital + Capital Expenditures = FCF
In you managerial balance sheet, the assets consist of Working Capital, fixed assets (CapEx) and Cash.
Normally, we relate working capital to revenues. That’s because
- Accounts receivable (A/R) has to do with payment period. Say it’s 30 days. 30/360 day
convertion, means that we calculate months to have 30 days, and a year to have 360 days.
If in 2020, revenues are 240 mln. This means that 1/12*240 mln has not been paid in the
year 2020. So 1/12 of your revenues is accounts receivable.
- Accounts Payable (A/R) has the same intuition, COGS. Say that COGS is 50% of your revenues.
Suppose that this payment period for your suppliers is 15 days. Then 1/24 of year’s COGS is
not yet paid. So 1/24*240 mln*0.50 has not been paid yet.
Say inventory and operating cash stay the same. This means that WC changes along with revenues=
A/R – A/P = so 1/12*Revenues - 1/48* Revenues = 1/16*revenues. So if revenues change with 1 mln,
your working capital changes with 1/16 * 1 mln.
For example air transport industry. Clients prepay their money, so accounts receivable is negative. So
typically, working capital / sales is a negative percentage.
3
Restructuring, M&As
Lecture 1
Accounting-based balance sheet (history
based). E.g. what did you pay for your
assets (-/- depreciation).. Equity over here
is also about the amount you used to get
for your shares.
The basic model of a firm is as follows
(value-based). This one is future-based.
This one is what makes your company
valuable. The left side represents where
the core value is generated. And in
financial markets, we distribute the
cashflows to the providers of the money.
The other assets is something we take
from the accounting-based balance sheet: cash.
We need to to obtain the actual Cash related to Operations, Investments and Financing. The total
result of these three should lead to the change in the cash position on the balance sheet.
The Operating Cash Flow follows the Income Statement until EBIT, but then starts to deviate:
In the Income Statement, after EBIT we subtract Interest: but this is Financing not Operating. Thus we
skip interest and leave it for the Financial Cash Flow. Next, looking at the Income Statement, we
subtract Depreciation before EBIT, but this is a non-cash item! So we add Depreciation back again.
Then, looking at the first rows in the Income Statement, these do not all reflect cash. Sales: is not
cash if there are Accounts Receivable (AR). COGS & SGA: is not cash if there are Accounts Payable
(AP). Sales & COGS: may need more cash if there Inventories.
These three items: AR, AP, and Inventories, are known as Working Capital:
Working Capital = AR + Inventories -/- AP.
If there is an increase in Working Capital, then EBIT is higher than the cash we actually received from
our operations ! Thus, we need to subtract the change in Working Capital.
Correcting for these three items (interest, depreciation, change in working capital) leads from EBIT to
Operating Cash Flow. So Operating CF: EBIT – Tax + Depreciation – Change in Working Capital.
Next look at the Investment Cash Flow. This is Fixed Assets this year -/- Fixed Assets last year +
Depreciation.
Lastly, there’s financing cashflow. This is determined by flows to and from Debt and Equity. Interest
payments follow from the income statement. Then we can look at the level of debt this year and last
year. You can check if debt has been paid back.
Equity repurchased = Equity this year -/- Equity last year -/- retained earnings. If this is negative, you
got more equity.
So financing cashflows = Interest paid (out)+ Debt repaid (out) + Dividends (out) + New equity (out)
=…
1
,The sum of operating cashflows, investment cash flows and financing cashflows is the total change in
cash. This was an accounting perspective.
From a Finance (Financial Management) perspective the concept of Free Cash Flow is much more
important !! This is not about the Cash that was generated in the past. It is about the Cash that is
going to be generated and that is available to both Equity and Debt. It is mainly a combination of the
Operating and Investment Cash Flow.
We start by constructing the Free CF (or CF from Assets) as if there is no Debt (100% Equity). This way
we can decide on the Debt/Equity at a later stage. So there is no financing effect in the Free CF !!
Since we want the Free Cash Flow to be freely available to Equity (and Debt), it is a CF after
investments.
We start by copying the Income Statement until EBIT. We pretend as if there is only Equity, no Debt.
This means we apply the tax rate to total EBIT !!
NOPAT = Net Operating Profit After Tax = EBIT x (1 – Tax).
Next we need to make adjustments for non-cash items. And subtract investments. The first non-cash
item to adjust for is Depreciation. NOPAT + Depreciation is known as Gross Cash Flow.
Other non-cash items are related to Accounts Receivables, Inventory, and Accounts Payable – as
before. This is the Change in Working Capital. Working Capital is “capital” that is needed to run your
Business. Working Capital = AR + Inventories -/- AP. Finally, there are Capital Expenditures. Those are
investments in fixed assets. Again: Fixed assets this year -/- fixed assets last year + Depreciation.
So for Free Cashflow: NOPAT + Depreciation + Change in Working Capital – Capital Expenditures. This
Free Cashflow is available to all investors (equity and debt).
We applied the tax on equity only, so there’s no tax benefit on debt in the Free Cash Flow. This will
be corrected later in the discount rate by taking the after tax interest rate: Interest * (1-tax).
The Free CF will be divided between Equity and Debt. First, we construct the free CF as if there’s no
debt. So there’s no financing effect in the Free CCF. We want the Free CF to be freely available to
equity (and debt), so it’s the CF after investments (ΔWC and CAPex can be found on the managerial
balance sheet).
Looking at the income statement itself tells us how profitable a firms is in terms of efficiency. We can
combine the income statement with the balance sheets, which gives us profitability in terms of
invested capital (derived from the managerial balance sheet).
To look how efficient we use our capital (what revenues do we generate with our capital):
Capital turnover = Sales / Invested capital
How (cost) efficient are we?
Operating margin = EBIT / Sales
Then, the first profitability measure.
Return on Invested Capital (before tax) = ROIC BT = Op. margin * Cap turnover
= EBIT/Sales * Sales/Invested capital
2
, Lecture 2
Finance says that operating CF is a better tool to see how the company is running. On the other hand,
accountancy looks to EBIT as the performance measure.
In a managerial balance sheet, you put the working capital on the left side of the balance sheet. So
you won’t see A/P, A/R or Inventory separately on this balance sheet. On the managerial balance
sheet: Fixed assets + working capital is then invested capital.
Fixed Assets Equity
Working Capital Debt note, there’s no short-term debt
CWash anymore (it’s in WC)
-----------------
Invested capital
Managerial balance sheet = Fixed assets + working capital.
Value based balance sheet = discounted FCF in the future (based on the k (discount rate with 100%
equity). The difference between managerial balance sheet and value based balance sheet is called
the NPV. NPV is about making a financial
If you look at the difference between market value balance sheet (Discounted FCF, That’s the V U) and
the managerial balance sheet, you find the market value added.
Market value balance sheet your discounted FCF is the sum of market value of equity + debt.
Lecture 3
Reminder: Taxes is on EBIT (as if it’s only 100% equity), not the real taxes!
Gross cash flow + Δworking capital + Capital Expenditures = FCF
In you managerial balance sheet, the assets consist of Working Capital, fixed assets (CapEx) and Cash.
Normally, we relate working capital to revenues. That’s because
- Accounts receivable (A/R) has to do with payment period. Say it’s 30 days. 30/360 day
convertion, means that we calculate months to have 30 days, and a year to have 360 days.
If in 2020, revenues are 240 mln. This means that 1/12*240 mln has not been paid in the
year 2020. So 1/12 of your revenues is accounts receivable.
- Accounts Payable (A/R) has the same intuition, COGS. Say that COGS is 50% of your revenues.
Suppose that this payment period for your suppliers is 15 days. Then 1/24 of year’s COGS is
not yet paid. So 1/24*240 mln*0.50 has not been paid yet.
Say inventory and operating cash stay the same. This means that WC changes along with revenues=
A/R – A/P = so 1/12*Revenues - 1/48* Revenues = 1/16*revenues. So if revenues change with 1 mln,
your working capital changes with 1/16 * 1 mln.
For example air transport industry. Clients prepay their money, so accounts receivable is negative. So
typically, working capital / sales is a negative percentage.
3
