1.Several factors have made Interco an attractive takeover target: 1) Interco’s stock is undervalued due to poor performance in the apparel and general merchandising divisions, which have weakened Interco’s valuation as a whole. 2) As stated by the equity analysts, Interco is an over capitalized company with potential to grow, which makes an acquisition easy to finance. 3) Interco is also a cash generative target for a potential acquirer as it generates approximately $0.10 of operating cash flow for every dollar of sales. 4) The company is also structured in a way that it could be broken up and sold into its constituent parts, which could prove to be worth more than the whole. 2.As a member of the Board of Interco, neither the Premiums Paid Analysis nor the Comparable Transaction Analysis is very convincing. Premiums Paid Analysis – At first glance, the premiums paid analysis indicates that the Rales Proposal undervalues the stock relative to other recent transactions. However, this measure has limited reliability in that it is not directly related to the company’s financial outlook. Additionally, this analysis does not indicate which industries are being used as comps, so it is impossible to tell how relevant this data really is. Comparable Transaction Analysis – Since Interco is a conglomerate, no one industry segment will provide an accurate measure of the effectiveness of the Rales Proposal in the aggregate. Also none of the comps are even close in size to the aggregate valuation range of the Rales Proposal. Therefore, thee comps may not be relevant as smaller companies may have different growth and profitability dynamics. 3.See Discounted Cash Flow Analysis #1 for a discounted cash flow analysis using Wasserstein’s assumptions, which support their proposed valuation range. As a member of the Board we would question the following assumptions: •Assumptions related to the apparel division seem higher than warranted: oThe projected growth rate...

...MODELING THE DCF Modeling unlevered free cashflows Discounting to reflect stub year and mid-year adjustment Terminal value using growth in perpetuity approach Terminal value using exit multiple approach Calculating net debt Shares outstanding using the treasury stock method Modeling the weighted average cost of capital (WACC) Sensitivity analysis using data tables Modeling synergies
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DCF in theory and in practice
DCF in theory • The DCF valuation approach is based upon the theory that the value of a business is the sum of its expected future free cashflows, discounted at an appropriate rate. • Discounted cashflow (DCF) analysis is one of the most fundamental, commonly-used valuation methodologies. It is a valuation method developed and supported in academia and also widely used in applied business practices. DCF in practice • There is no consensus on implementation – controversies predominantly over the estimation of the cost of equity. • Extremely sensitive to changes in operating, exit and discount rate assumptions. • That said, there are general rules of thumb that guide implementation. Two-stage DCF model is prevalent form • • • • The prevalent form of the DCF model in practice is the two-stage DCF model. Stage 1 is an explicit projection of free...

...Capital Asset Pricing Model (CAPM) Versus the Discounted CashFlows Method
Managerial Analysis/BUSN 602
Capital asset pricing model or CAPM is a financial model that measures the risk premium inherent in equity investments like common stocks while Discounted CashFlow or DCF compares the cost of an investment with the present value of future cashflows generated by the investment with the mindset being that if the cashflow is positive, then the investment is good. Generally speaking, CAPM is a model that describes the relationship between risk and expected return and DCF is a valuation method used to estimate the attractiveness of an investment opportunity. So what are the differences, advantages and disadvantages of each one? How do you go about applying them? They each have their own purpose. Let’s first take a look at CAPM.
“CAPM is a model that describes the relationship between risk and expected return and that is used in the pricing of risky securities.”("Capital asset pricing,") It looks at the risk and rates or return and compares them to the stock market. While it is impossible to have no risk, CAPM helps calculate investment risk with the return on investment that is predictable and expected. “The CAPM says that the expected return of a security or a portfolio equals the rate on a risk-free security plus a risk premium. If...

...different estimates of equity value are obtained by researchers while using the discounted cashflow model (CF) and the Residual income (RI) model. It recognises the inconsistencies prevalent while implementing them. Francis et al (2000) use Value line estimates for finite forecasting periods. They conclude that RI is superior to CF. Courteau et al (2000) analyse whether different valuation models are same when a terminal value calculation based on price is used. They conclude that RI is dominant to CF when terminal price forecasts are not obtainable. Penman and Sougiannis (1998) examine the differences in model estimates by using a portfolio of ex post realizations of financial statement data. They conclude that methods based on projecting GAAP accrual earnings give lower valuation errors than forecasting cashflows.
The inconsistent forecasts error occurs when there is an error in the starting value of the terminal value perpetuity. In order to prevent this error, a financial statement forecast in the terminal period using the terminal growth rate has to be developed and the relevant valuation attribute in the year T + 1 should be constructed. This error is experienced in all three papers. The inconsistent discount rate error arises due to inconsistency between cost of equity capital and weighted average cost of capital. This error is experienced by Francis and Penman. The missing cash...

...price of Wal-Mart Stores Inc. (which ticker symbol in NYSE is WMT) by fundamental analysis. According to this analysis, I recommend that Wal-Mart is worth to invest in the long term because of the potential growth of market shares and revenue. Besides, based on P/E method and Gordon model, WMT price is undervalued; therefore, if investors buy the stock, they will get benefit not only in capital gain but also in dividend cash inflow.
II. Introduction of Wal-Mart Stores Inc. (WMT)
Wal-Mart, founded by Sam Walton in 1962, is the world’s largest retailer and public corporation. It operates over 6,500 stores worldwide, employs 1.9 million associates, and serves more than 176 million customers each week around the world. The company offers a broad assortment of quality commodities and services and its purpose is “saving people more money so they can live better.” Wal-Mart owns Wal-Mart Supercenters which are discount and grocery stores, SAM’S Clubs which are membership-only warehouse stores, and Neighborhood Markets which are smaller grocery stores. The company faces many major competitors such as Costco Wholesale, Target, Cost-U-Less, Sears Holding, and Dollar General in the USA and Carrefour which come from France in worldwide.
Wal-Mart was listed on the New York Stock Exchange (its ticker symbol is WMT) with an initial stock price of 32.50 per share on August 25, 1972 and distributed its first cash dividend $0.0001...

...that could potentially accept the cashflows for SAI and its two potential projects were, Dig-Image and W-Comm. In addition, SAI's plans to make $54 million in its first year by selling at least 400,000 units. A detail analysis, will consider accomplishing this by focusing on the following types of synergy: (1) revenue enhancement, (2) cost reduction, (3) lower taxes, and (4) lower cost of capital. The premium paid for an acquisition is the price paid minus the market value of the acquisition prior to the merger. The premium depends on whether cash or securities are used to finance the offer price (Ross. 2005. Chapter 29, page 795).
Shareholders in organizations like to invest in projects that are worth more than they cost. "In capital budgeting, the profitability index measures the bang (the dollar return) for the buck invested. Therefore, it is useful for capital rationing (Ross 2005). The investment in net working capital is an important part of any capital budgeting analysis. The Silicon Arts Inc. found its company in a very important decision making position between two cashflows for future business investments. As a new hire for SAI and with a first assignment of analyzing the cashflows using the ratios of Net Present Value (NPV), Internal Rate of Return (IRR), and Profitability Index (PI); which would provide the CFO with the...

...1 – Methodological Approach
In this case, American CC – the intended acquirer of AirThread Connections- will use leveraged buyout (LBO) model, which means the company will finance the acquisition through bank loan or some other borrowing methods. Hence, the debt-to-equity ratio will change in time. Since we will need to estimate the discount rate any time the capital structure changes, neither WACC nor APV would be reliable alone. Therefore, Ms. Zhang should use the combination of WACC and APV methods.
As stated above, ACC will use the Leverage buy out (LBO) approach, which means that the debt to equity ratio of AirThread will not be the same from 2008 to 2012, so APV approach would be more suitable to valuate the cashflows between 2008 and 2012.
After 2012, AirThread will de-lever to industry norm and thus, they will have a target leverage ratio; therefore WACC is best to estimate the terminal value.
Finally, regarding the valuation of non-operating investments in equity affiliates, due to limited data, market multiple approach would be better to use.
2 – Valuation of AirThread
Regarding the estimation of the long-term growth rate, Ms. Zhang knows that the long-term growth rate would be a function of the company’s return on capital (ROC) and reinvestment rate. According to the definition given in the case, ROC is defined as net operating profits after taxes divided by the book value of equity and debt. Since, there is not...

...In finance, the discounted cashflow (DCF) analysis is a method of valuing a project, company or asset using the concepts of time value of money (Wikipedia, 2004). Three inputs are required to use the DCF, also called dividend-yield-plus-growth-rate approach, include: the current stock price, the current dividend, and the marginal investor’s expected dividend growth rate. The stock price and the dividend are east to obtain, but the expected growth rate is difficult to estimate (Ehrhardt & Brigham, 2011). The advantages and disadvantages of using DCF approach will be explained along with the further clarification on the cost of capital using DCF approach.
The cost of capital is a term used in the field of financial investment to refer to the cost of a company’s funds, both debt and equity, or from an investors’ point of view, the shareholders required return on a portfolio of a company’s existing securities. It is used to evaluate new projects of a company as it is the minimum return that investors expect for providing capital to the company, thus setting a benchmark that a new project has to meet (Wikipedia, 2004). In other words, it is the expected return that is required on investments to compensate for the required risk. It represents the discount rate that should be used for capital budgeting calculations. The cost of capital is generally calculated on a weighted average, also called Weighted Average Cost of Capital...

...An empirical study of the discounted cashflow model
Martin Edsinger1, Christian Stenberg2 June 2008
Master’s thesis in Accounting and Financial Management Stockholm School of Economics
Abstract The purpose of this thesis is to compare the practical use of the DCF model with the theoretical recommendations. The empirical study is based on eight different DCF models performed by American, European and Nordic investment banks on the Swedish retail company Hennes & Mauritz (H&M). These models are currently being used internally by the corresponding equity research departments to determine the fair value of the H&M stock. The aspects that are studied are regarded as the basic theoretical requirements of the DCF model. The discrepancies between theory and practice are concluded to be significant and the overall quality of the studied DCF models is determined to be poor. The explanation for the differences between theoretical practice and empirical findings is mainly attributed to the use of the DCF model as a tool to merely motivate an investment recommendation and not derive a correct theoretical value. Tutor: Professor Peter Jennergren3 Discussants: Gustav Ohlsson, Fredrik Toll and Carl Wessberg Presentation: June 5, 2008, 15:15 am Venue: KAW, Stockholm School of Economics Key words: corporate valuation, discounted cashflow model, free cashflow, valuation
20084@student.hhs.se...