Английский язык. Практический курс для решения бизнес-задач
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Assets
Assets can be classified as current assets and long-term assets. It is useful to know the number of days of certain assets and liabilities that a firm has on hand:
Accounts receivable (A/R)
Number of days of A/R = (accounts receivable / annual credit sales) (365).
This also is known as the collection period.
Inventory
Number of days of inventory = (inventory / annual COGS) (365).
This also is known as the inventory period.
Payables
Number of days of accounts payable = (accounts payable / COGS) (365),
assuming that all accounts payable are for the production of goods (payables period).
Financial Ratios
A firm’s performance can be evaluated using various financial ratios (see lesson 37).
Bank Loans
Bank loans can be classified according to their durations. There are short-term loans (one year or less), long-term loans (also known as term loans), and revolving loans that allow one to borrow up to a specified credit level at any time over the duration of the loan. Some
Sources and Uses of Cash
It can be worthwhile to know where a firm’s cash is originating and how it is being used. There are two sources of cash: reducing assets or increasing liabilities or equity. A company uses cash by increasing assets or decreasing liabilities or equity.
Firm Value, Equity Value, and Debt Value
The value of the firm is the value of its assets, or the present value of the unlevered free cash flow resulting from the use of those assets. In the case of an all-equity financed firm, the equity value is equal to the firm value. When the firm has issued debt, the debt holders have a priority claim on their interest and principal, and the equity holders have a residual claim. The sum of the value of the debt and the value of the equity then is equal to the value of the firm, ignoring the tax benefits from the interest paid on the debt. Considering taxes, the effective value of the firm will be higher since a levered firm has a tax benefit from the interest paid on the debt.
Capital Structure
The proportion of a firm’s capital structure supplied by debt and by equity is reported as either the debt to equity ratio (D/E) or as the debt to value ratio (D/V), the latter of which is equal to the debt divided by the sum of the debt and the equity.
Risk Premiums
Business risk is the risk associated with a firm’s operations. It is the undiversifiable volatility in the operating earnings (EBIT). Business risk is affected by the firm’s investment decisions. A measure for the business risk is the asset beta, also known as the unlevered beta. The return on assets of a firm can be expressed as a function of the risk-free rate and the business risk premium (BRP):
rA = rF + BRP
Financial risk is associated with the firm’s capital structure and magnifies the business risk of a firm. Financial risk is affected by the firm’s financing decision.
Total corporate risk is the sum of the business and financial risks and is measured by the equity (levered) beta. The business risk premium (BRP) and financial risk premium (FRP) are reflected in the levered (equity) beta, and the return on levered equity can be written as:
rE = rF + BRP + FRP
Debt beta is a measure of the risk of a firm’s defaulting on its debt. The return on debt can be written as:
rD = rF + default risk premium
Cost of Capital
The cost of capital is the rate of return that must be realized in order to satisfy investors. The cost of debt capital is the return demanded by investors in the firm’s debt; this return largely is related to the interest the firm pays on its debt. Managers used to believe that equity capital had no cost if no dividends were paid; however, equity investors incur an opportunity cost in owning the equity of the firm and they demand a rate of return comparable to what they could earn by investing in securities of comparable risk.
The return required by debt holders is found by applying the CAPM:
rD = rF + betadebt (rM– rF)
The required rate of return on assets can be found using the CAPM:
rA = rF + betaunlevered (rM– rF)
Using the CAPM, a firm’s required return on equity is calculated as:
rE = rF + betalevered (rM– rF)
Under the Modigliani-Miller assumptions of constant cash flows and constant debt level, the required ROE is
rE = rA + (1-t)(rA– rD)(D/E)
where t is the corporate tax rate.
The overall cost of capital is a weighted-average of the cost of its equity capital and the after-tax cost of its debt capital:
WACC = rE (E/VL) + rD (1 – t)(D/VL)
Assuming perpetuities for the cash flows, the WACC can be calculated as:
WACC = rA (1– t(D/VL))
Neglecting taxes, the WACC would be equal to the expected ROA because the WACC is the return on a portfolio of all the firm’s equity and debt, and such a portfolio essentially has claim to all of the firm’s assets.
Estimating Beta
In order to use the CAPM to calculate ROA or ROE, one needs to estimate the asset (unlevered) beta or the equity (levered) beta of the firm. The beta that often is reported for a stock is the levered beta for the firm. When estimating a beta for a particular line of business, it is better to use the beta of an existing firm in that exact line of business (a pure play) rather than an average beta of several firms in similar lines of business. Expressing the levered beta, unlevered beta, and debt beta in terms of the covariance of their corresponding returns with that of the market, one can derive an expression relating the three betas. This relationship between the betas is:
betalevered = betaunlevered (1 + (1– t) D/E)– betadebt(1 – t) D/E
betaunlevered = (betalevered + betadebt(1 – t) D/E) / (1 + (1– t) D/E)
The debt beta can be estimated using CAPM given the risk-free rate, bond yield, and market risk premium.
Unlevered Free Cash Flows
To value the operations of the firm using a discounted cash flow model, the unlevered free cash flow is used. The unlevered free cash flow represents the cash generated by the firm’s operations and is the cash that is free to be paid to stock and bond holders after all other operating cash outlays have been performed.
Terminal Value
The value of the firm at the end of the last year for which unique cash flows are projected is known as the terminal value. The terminal value is important because it can represent 50% or more of the total value of the firm.
Three Discounted Cash Flow Methods for Valuing Levered Assets
APV (Adjusted Present Value) Method
The APV approach first performs the valuation under an unlevered all-equity
assumption, then adjusts this value for the effect of the interest tax shield: