Culverhouse Investment Management Group Discounted Cash Flow Modeling

Introduction Intrinsic value of the company Theoretical vs. relative value Present value of the cash that company will make in the future Gotta discount that cash back to today

Advantages of a DCF Valuation Intrinsic valuation gives a theoretical worth Flexible, adaptable analysis Can tinker & play Requires model maker to scrutinize value drivers Always obtainable

Disadvantages of a DCF Valuation A DCF is only as good as its inputs This is two-fold: Your assumptions need to be defendable More predictable the cash flows, better reliability of DCF Would you ever rely on a DCF to value Snapchat? What about a super volatile commodity? Highly sensitive to: Growth rates and margin assumptions Terminal growth rate Discount rate

Making Defendable Assumptions Management Investor presentations Earnings Calls Wall Street Analysts Bloomberg Historical Data Trend analysis

DCF Valuation Output

So How Do I Build One?

Figure Out Your Assumptions

Output of Your Assumptions

DCF Output

Discounting Cash Flows: Weighted Average Cost of Capital (Cost of Equity x Weight of Equity)+(Cost of Debt x (1-tax rate) x Weight of Debt) Go to Bloomberg Find your company Type in WACC Use that

Discount Projected Cash Flow / (1+WACC)^1 / (1+WACC)^5

Terminal Value We have cash flows projected from 2015-2019: What about 2020-Eternity? In comes the Terminal Value calculation Use the Perpetuity Growth Model Assumes cash flows grow to perpetuity at a constant rate Inputs required: Terminal year FCF, WACC, LTGR Long term growth rate: Generally use between 2% - 3% Long term GDP growth rate Terminal Value Formula: (Terminal Year FCF*(1+LTGR))/(WACC-LTGR) Must discount this value back to present: (Result of Above Calculation/(1+WACC)^(# of years in future we projected (5))

Project Terminal Value Final projected FCF: $517mm WACC: 9.5%; LTGR 2.5% Terminal Value = (517*(1+.025))/(.095-.025) = $7,563 Discount Terminal Value = 7,563/(1+.095)^5 Terminal Value: $4,804

Add! to get Enterprise Value

Subtract! to get Equity Value

Divide! By Shares Outstanding Compare to Current Stock Price

DCF Valuation Output

Best Practices and Other Notes Pull historical finances from 10K Found on company website Keep your growth assumptions realistic! Ramp down revenue growth over the projection period When in doubt, average past percentages of revenue Don’t get too caught up in being exact. You’re going to be off. Just be sure everything you do has a reason

Best Practices and Other Notes WACC should range from 8%-12%. LTGR: 2%-3% This is a quantitative analysis. Be sure your company holds up under qualitative AND quantitative scrutiny Build a DCF over Christmas Break Info is all over the internet if you get stuck. Pick a simple company that makes sense (Nike, Coach, etc.) Will have Secretary Jason send you a sample model so you can look at all the calculations