7/7/15

Discounted Cash Flow:

Forecast Drivers
Michael R. Roberts
William H. Lawrence Professor of Finance
The Wharton School, University of Pennsylvania

Copyright Michael R. Roberts

Last Time
Discounted Cash Flow (DCF)
Free Cash Flow

Copyright Michael R. Roberts

7/7/15

This Time
Discounted Cash Flow (DCF)
Forecast Drivers

Copyright Michael R. Roberts

Forecast Drivers

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Revenue = Market Size x Market Share x Price

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Revenue = Market Size x Market Share x Price

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Revenue = Market Size x Market Share x Price

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Revenue = Market Size x Market Share x Price

Corp

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Revenue = Market Size x Market Share x Price

Corp

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Costs = Cost Margin x Revenue

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Costs = R&D Expenditures

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Capital Expenditures

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Capital Expenditures

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Depreciation

*Straight line depreciation

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Net Working Capital = Cash + Inventory + AR AP

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Net Working Capital = Cash + Inventory + AR AP

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Net Working Capital = Cash + Inventory + AR AP

Copyright Michael R. Roberts

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Net Working Capital = Cash + Inventory + AR AP

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Net Working Capital = Cash + Inventory + AR AP

Copyright Michael R. Roberts

10

7/7/15

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital
Net Working Capital = Net Working Capital (t)
Net Working Capital (t-1)
where = change over one period

Copyright Michael R. Roberts

FCF = (Revenue Costs Depreciation) x (1 tC)

+ Depreciation Capital Expenditures
Change in Net Working Capital

Taxes
We want the marginal tax rate (MTR)
=
Tax rate on additional $ of earnings
25.5%

Copyright Michael R. Roberts

11

7/7/15

This is Nonsense!

Copyright Michael R. Roberts

This is Nonsense!
Impossible to make accurate forecasts!

Copyright Michael R. Roberts

12

7/7/15

This is Nonsense!
Impossible to make accurate forecasts!
I agree, but thats not the point!!!!
Copyright Michael R. Roberts

Lesson: Point of DCF is to focus

discussion and analysis on relevant
issues

Copyright Michael R. Roberts

13

7/7/15

Lesson: Successful valuation (i.e.,

decision making) depends critically on
input from non-finance personnel

Copyright Michael R. Roberts

Summary

Copyright Michael R. Roberts

14

7/7/15

Lessons
Forecast Drivers are the
assumptions used to populate our
free cash flow forecasts
Goal is to establish framework for
discussion
Think about value drivers
Copyright Michael R. Roberts

Coming up next
Discounted Cash Flow (DCF)
Forecasting free cash flow

Copyright Michael R. Roberts

15