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Numerical Example

Firm Valuation using FCFF

Problem:

We want to value a company, "GlobalTech," using the FCFF approach.

  • Forecast Period: 5 years

  • FCFF Forecast:

    Year FCFF (Millions)
    1 $50
    2 $55
    3 $60.5
    4 $66.55
    5 $73.21

  • Terminal Value Growth Rate (g): 3%

  • Weighted Average Cost of Capital (WACC): 9%

  • Market Value of Debt: $400 million

  • Non-Operating Assets (Excess Cash): $50 million

Solution:

  1. Calculate the Present Value of the Forecasted FCFF (Years 1-5):

    Year FCFF (Millions) Discount Factor (1.09)^-t Present Value (Millions)
    1 $50 0.9174 $45.87
    2 $55 0.8417 $46.29
    3 $60.5 0.7722 $46.72
    4 $66.55 0.7084 $47.15
    5 $73.21 0.6499 $47.58
    Total: $233.61

  2. Calculate the Terminal Value at the End of Year 5:

    • First, find FCFF6: FCFF6 = FCFF5 * (1 + g) = $73.21 * (1.03) = $75.41
    • Terminal Value (TV5) = FCFF6 / (WACC - g) = $75.41 / (0.09 - 0.03) = $75.41 / 0.06 = $1256.83

  3. Discount the Terminal Value Back to the Present:

    • Present Value of Terminal Value = TV5 / (1 + WACC)^5 = $1256.83 / (1.09)^5 = $1256.83 / 1.5386 = $816.86

  4. Calculate the Enterprise Value:

    • Enterprise Value = Present Value of Forecasted FCFF + Present Value of Terminal Value
    • Enterprise Value = $233.61 + $816.86 = $1050.47 million

  5. Calculate the Equity Value:

    • Equity Value = Enterprise Value - Market Value of Debt + Non-Operating Assets
    • Equity Value = $1050.47 - $400 + $50 = $700.47 million

Therefore:

  • Enterprise Value of GlobalTech = $1050.47 million
  • Equity Value of GlobalTech = $700.47 million

This example illustrates the application of the FCFF valuation approach. The key steps are to forecast future FCFF, estimate the terminal value, discount the cash flows and terminal value back to the present using the WACC, and then calculate the enterprise value and equity value.

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