Capital budgeting and valuation
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Capital budgeting and valuation



Presentation that covers processes for determining Capital budgeting decisions and Business valuation.

Presentation that covers processes for determining Capital budgeting decisions and Business valuation.



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Capital budgeting and valuation Capital budgeting and valuation Presentation Transcript

  • Capital Budgeting and Corporate Valuation Pricing your expansion and determining the value of your company.
  • Capital Budgeting
    • Income statement provides some indication of profitability but not of true return value or value of capital investment.
    • Return on capital should be measured on a cash-flow basis and take time into account.
  • Economic value added
    • Measuring whether a business or investment is justified because its earnings exceed its cost of capital.
    • Sometimes other factors justify investment or capital expansion, i.e. goodwill, business strategies, or personnel resources.
  • Quantitative perspective includes
    • The time value of money
    • Discounted cash flow analysis
    • Evaluation of projects
      • NPV – Net Present Value
      • Internal rate of return
      • Payback
      • Profitability index
  • Time value of money
    • Hurdle Rate – (Reinvestment rate or opportunity cost of funds)
    • Common rate used is 12%, but too low for start-ups.
    • First calculate future value
      • Value plus interest
    • Calculate Present value factor
      • 1 ÷ Future value
  • Multiply present value and present value factor Present value factor is equal to present value/future value Year 0 1 2 3 4 5 Future Value 1.00 1.12 1.25 1.41 1.57 1.76 Present Value Factor 1.00 .893 .797 .712 .635 .567
  • Discounted Cash Flow
    • Identify cash outflows and inflows
    • Estimate Risk
    • Utilize the time value of money
  • Net Present Value
    • Present value of all cash inflows and outflows from a capital expansion
    • A positive NPV is desirable
  • Machinery Cost Savings Project Exceeds the 12% hurdle PRESENT VALUE TOTAL IS 102469 Year 0 1 2 3 4 5 PVF 1 .8929 .7972 .7118 .6355 .5674 Base Cash Flows (100000) 30000 30000 30000 30000 20000 Present Value (100000) 26786 23916 21353 19066 11349 Net Present Value 2469
  • Comparing Different Investment Opportunities
    • Never done exclusively on a quantitative approach.
      • Strategy
      • Marketing assumptions
      • Competition
      • Risk
      • Legal
      • Regulatory
      • Human Resources
      • Environment
  • Internal Rate of Return (IRR)
    • Calculate the NPV to a zero factor
    • Excel offers formulas for both NPV and IRR
  • Payback
    • How long will it take to repay the amount of the capital investment.
    • This includes cash inflow from the project
  • Profitability Index
    • Ratio of the present value of cash inflows divided by the present value of cash outflows
    • A $100,000 investment will yield a $30,000 cash inflow for the next five years. 150000/100000 = 1.5
  • Calculating a Hurdle Rate
    • Usually is determined by WACC or weighted average cost of capital
    • Can become subjective
    • Based on the portion of debt to equity and then using an asset pricing model (comparison) for weighting. Rather complicated.
    • A common and accepted rate is 10-15%
  • Corporate Valuation
    • Book Value
    • Market Value
    • Liquidation Value
    • Replacement Value
    • Discounted Cash Flow
    • Value of Future Earnings
    • Off Balance Valuation
  • Book Value
    • Not the market value
    • Equals the total equity on the balance sheet
    • Does not accurately depict depreciated assets
    • Very straight forward
  • Market Value
    • Market value verses Book value
    • Use a P-E ratio
      • Price to earnings ratio
    • Total Assets – Liabilities in liquidations = Market value
  • Liquidation Value
    • Expected net proceeds after expenses and taxes of selling a company’s assets
    • Usually the bottom line
  • Replacement Value
    • Sometimes the cost of starting your own business rather than buying into one is desirable.
    • When starting a new business, one must compensate for marketing cost to meet sales projected. Very easy to underestimate.
  • Discounted Cash Flow
    • Based on a three to five year cash projection much like a start-up business
    • Utilizing proven marketing history and weighted valuations to calculate the expected cash flow
  • Value of Future Earnings
    • Calculating a multiplier
    • Usually 2-4%
    • Then income is increased each year
    • Total of three years is accepted valued price
  • Off Balance Valuation
    • Values that are not identified as assets
      • Location
      • Lease or rental contract
      • Customer mailing list
      • Intellectual Property
      • Experienced Staff
      • Computer Software