Two-Stage FCFE Discount Model

TwoStageFCFEDiscountModel

Thismodelisdesignedtovaluetheequityinafirm,withtwostagesofgrowth,anin
periodofhighergrowthandasubsequentperiodofstablegrowth.

Assumptions

1.Thefirmisexpectedtogrowatahighergrowthrateinthefirstperiod.

2.Thegrowthratewilldropattheendofthefirstperiodtothestablegrowthrate.

3.Thefreecashflowtoequityisthecorrectmeasureofexpectedcashflowstostockholders.

Theuserhastodefinethefollowinginputs:

1.Lengthofhighgrowthperiod

2.Expectedgrowthrateinearningsduringthehighgrowthperiod.

3.CapitalSpending,DepreciationandWorkingCapitalneedsduringthehighgrowthperiod.

4.Expectedgrowthrateinearningsduringthestablegrowthperiod.

5.Inputsforthecostofequity.

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Inputstothemodel

CurrentEarningspershare= $4.00 (incurrency)

CurrentDividendspershare= $0.25 (incurrency)

CurrentCapitalSpending/sh= $3.70 (incurrency)

CurrentDepreciation/share= $1.70 (incurrency)

CurrentRevenues/share= $20.00

WorkingCapital/share= $8.00 (incurrency)

Chg.WorkingCapital/share= $1.00

Enterlengthofextraordinarygrowthperiod= 5 (inyears)

Doyouwanttoentercostofequitydirectly? No (YesorNo)

Ifyes,enterthecostofequity= (inpercent)

Ifno,entertheinputstothecostofequity
Betaofthestock= 1.3

Riskfreerate= 7.00% (inpercent)

RiskPremium= 5.50% (inpercent)

EarningsInputs

Doyouwanttousethehistoricalgrowthrate? Yes (YesorNo)

Ifyes,enterEPSfromfiveyearsago= $0.49 (incurrency)

Doyouhaveanoutsideestimateofgrowth? Yes (YesorNo)

Ifyes,entertheestimatedgrowth: 19.00% (inpercent)

Doyouwanttocalculatethegrowthratefromfundamentals? Yes (YesorNo)

Ifyes,enterthefollowinginputs:
NetIncomeCurrently= $1,077.00 (incurrency)
InterestExpenseCurrently= $53.85 Lastyear (incurrency)

BookValueofDebt= $600.00 $550.00 (incurrency)

BookValueofEquity= $5,445.00 $5,130.00 (incurrency)

TaxRateonIncome= 36.00% (inpercent)

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 Two-Stage FCFE Discount Model

Thefollowingwillbetheinputstothefundamentalgrowthformulation:
ROC= 19.57% D/E= 11.02% (inpercent)

Retention= 93.75% InterestRate= 8.98% (inpercent)

Doyouwanttochangeanyoftheseinputsforthehighgrowthperiod? No (YesorNo)

Ifyes,specifythevaluesfortheseinputs(Pleaseenterallvariables)
ROC= 19.57% D/E= 11.02% (inpercent)

Retention= 93.75% InterestRate= 8.98% (inpercent)

Specifyweightstobeassignedtoeachofthesegrowthrates:
HistoricalGrowthRate= 10.00% (inpercent)

OutsidePredictionofGrowth= 40.00% (inpercent)

FundamentalEstimateofGrowth= 50.00% (inpercent)

Entergrowthrateinstablegrowthperiod? 6.00% (inpercent)

Beta

Willthebetatochangeinthestableperiod? Yes (YesorNo)

Ifyes,enterthebetaforstableperiod= 1.1

CapitalSpending,Depreciation&WorkingCapital

Doyouwantalltheseitemstogrowatthesamerateasearnings? No (YesorNo)

Ifnot,enterthegrowthratesforeachofthefollowingitems:
CapitalSpending Depreciation Revenues

HighGrowth 20% 20% 18% (inpercent)

StableGrowth Donotenter Donotenter 6% (inpercent)

Doyouwanttokeepthecurrentfractionofworkingcapitaltorevenues? Yes (YesorNo)

Specifyworkingcapitalasapercentofrevenues: 40% (inpercent)

Doyouwanttousethecurrentdebtratioasyourdesiredmix? Yes (YesorNo)

Ifno,enterthefollowinginputsforfinancingmix,
DesireddebtfinancingproportionCapitalSpending (inpercent)

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 Two-Stage FCFE Discount Model

DesireddebtfinancingproportionWorkingCapital (inpercent)

CapitalspendingandDepreciationduringStableGrowth Aswath Damodaran:

If you are going to
Iscapitalspendingtobeoffsetbydepreciationinstableperiod? No (YesorNo)
Aswath Damodaran:
assume perpetual
Yes or No.
growth, you If yes, enter
should
Doyouwanttocomputeyourreinvestmentratefromfundamentals? Yes
the return
answer no on equity
here and
Returnonequityinstablegrowthperiod 12% that
makeyour
surefirm
thatwill
caphave
ex
in perpetuity
is higher thanbelow. If
Ifno,entercapitalexpendituresas%ofdepreciationinstablegrowth 150% no, enter capin
depreciation
(inpercent) ex as a
percent of
yourterminal year.
depreciatiion.

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 If you are going to
Aswath Damodaran:
assume perpetual
Yes or No.
growth, youIf yes, enter
should
the return
answer no on equity
here and
Two-Stage FCFE Discount Model that
makeyour
surefirm
thatwill
caphave
ex
in perpetuity
is higher thanbelow. If
no, enter capin
depreciation ex as a
percent of
yourterminal year.
depreciatiion.

Outputfromtheprogram
CostofEquity= 14.15%

ProportionofDebt:CapitalSpending(DR)= 9.93%

ProportionofDebt:WorkingCapital(DR)= 9.93%

CurrentEarningspershare= $4.00

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 Two-Stage FCFE Discount Model

(CapitalSpendingDepreciation)*(1DR) $1.80

ChangeinWorkingCapital*(1DR) $0.90

CurrentFCFE $1.30

GrowthRateinEarningspershare

GrowthRate Weight
HistoricalGrowth= 52.19% 10.00%

OutsideEstimates= 19.00% 40.00%

FundamentalGrowth= 19.77% 50.00%

WeightedAverage 22.71%

GrowthRateincapitalspending,depreciationandworkingcapital

HighGrowth StableGrowth
Growthrateincapitalspending= 20.00% Donotenter

Growthrateindepreciation= 20.00% Donotenter

Growthrateinrevenues= 18.00% 6.00%

WorkingCapitalaspercentofrevenues= 40.00% (inpercent)

TheFCFEforthehighgrowthphaseareshownbelow(upto6years)
1 2 3 4

Earnings $4.91 $6.02 $7.39 $9.07

(CapExDepreciation)*(1DR) $2.16 $2.59 $3.11 $3.74

Chg.WorkingCapital*(1DR) $1.30 $1.53 $1.81 $2.13

FreeCashflowtoEquity $1.45 $1.90 $2.47 $3.20

PresentValue $1.27 $1.46 $1.66 $1.89

GrowthRateinStablePhase= 6.00%

FCFEinStablePhase= $5.90
CostofEquityinStablePhase= 13.05%
Priceattheendofgrowthphase= $83.65

PresentValueofFCFEinhighgrowthphase= $8.40

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 Two-Stage FCFE Discount Model

PresentValueofTerminalPrice= $43.16

Valueofthestock= $51.56

Estimatingthevalueofgrowth

Valueofassetsinplace= $9.94

Valueofstablegrowth= $9.57

Valueofextraordinarygrowth= $32.05

Valueofthestock= $51.56

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 Two-Stage FCFE Discount Model

el

agesofgrowth,aninitial
tablegrowth.

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Two-Stage FCFE Discount Model

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 Two-Stage FCFE Discount Model

swath Damodaran:
you are going to
swath Damodaran:
sume perpetual
s or No.
owth, youIf yes, enter
should
e return
nswer no on equity
here and
at your
ake surefirm
thatwill
caphave
ex
perpetuity
higher thanbelow. If
o, enter capinex as a
epreciation
ercent of
ourterminal year.
epreciatiion.

Page
 you are going to
swath Damodaran:
sume perpetual
s or No.
owth, youIf yes, enter
should
e return
nswer no on equity
here and
at your
ake surefirm
thatwill
caphave
ex Two-Stage FCFE Discount Model
perpetuity
higher thanbelow. If
o, enter capinex as a
epreciation
ercent of
ourterminal year.
epreciatiion.

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 Two-Stage FCFE Discount Model

5 TerminalYear

$11.13 $11.79

$4.48 $4.91
$2.51 $0.99

$4.13 $5.90
$2.13

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