Aff5040 Toturial Answer
Section 3.2 of the Assignment
In section 3.2 you are required to:
3.2 Using the procedures as discussed in the Unit text book Gitman (2011), estimate future free cash flows for your company for the next three years. You MUST state assumptions made in performing the calculations.
The following information may assist you if you are still having difficulties in relation to this area.
1.
Free cash flow and the Gitman (2011) approach
Chapter 3 of Gitman (2011) outlines several relevant aspects that are relevant to this exercise. Firstly, be sure that you clearly understand as per Gitman how Free Cash Flow is to be calculated. Gitman defines free cash flow as (This approach was discussed in Lecture 3). Operating cash flows (OCF) = EBIT x (1 – T) Free Cash Flows = EBIT x (1 – T) + depreciation - Net Current Asset Investment - Net Non-Current Asset Investment Where Net Current Asset Investment (NCAI) = change in current assets – (change in accounts payable+ accruals) Net non-current asset investments (NNCAI) = change in net non-current assets + depreciation NOTE: NCAI measures the net investment made in current (operating assets) e.g. inventories, accounts receivables etc. It represents the change in working capital but excludes any financing costs associated with short term debt in current liabilities. Some analysts also remove cash and marketable securities so as the figure remains as a pure change in working capital. Obviously to measure NCAI we are interested in the change in Net working capital from one period to the next. NNCAI measures the net investment made in non-current fixed and other assets of the firm (e.g. Plant and equipment, buildings etc) It can be measured as the change from one period to the next in net fixed (non-current assets) + depreciation.
However, before we calculate the free cash flow in the firm each year we need to be sure to firstly estimate pro-forma income statements, balance sheets and cash flow statements. As this
In section 3.2 you are required to:
3.2 Using the procedures as discussed in the Unit text book Gitman (2011), estimate future free cash flows for your company for the next three years. You MUST state assumptions made in performing the calculations.
The following information may assist you if you are still having difficulties in relation to this area.
1.
Free cash flow and the Gitman (2011) approach
Chapter 3 of Gitman (2011) outlines several relevant aspects that are relevant to this exercise. Firstly, be sure that you clearly understand as per Gitman how Free Cash Flow is to be calculated. Gitman defines free cash flow as (This approach was discussed in Lecture 3). Operating cash flows (OCF) = EBIT x (1 – T) Free Cash Flows = EBIT x (1 – T) + depreciation - Net Current Asset Investment - Net Non-Current Asset Investment Where Net Current Asset Investment (NCAI) = change in current assets – (change in accounts payable+ accruals) Net non-current asset investments (NNCAI) = change in net non-current assets + depreciation NOTE: NCAI measures the net investment made in current (operating assets) e.g. inventories, accounts receivables etc. It represents the change in working capital but excludes any financing costs associated with short term debt in current liabilities. Some analysts also remove cash and marketable securities so as the figure remains as a pure change in working capital. Obviously to measure NCAI we are interested in the change in Net working capital from one period to the next. NNCAI measures the net investment made in non-current fixed and other assets of the firm (e.g. Plant and equipment, buildings etc) It can be measured as the change from one period to the next in net fixed (non-current assets) + depreciation.
However, before we calculate the free cash flow in the firm each year we need to be sure to firstly estimate pro-forma income statements, balance sheets and cash flow statements. As this