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Equivalence of ten different discounted cash flow valuation methods

  • Fernandez, Pablo

    ()

    (IESE Business School)

This paper shows that ten methods of company valuation using discounted cash flows (WACC; equity cash flow; capital cash flow; adjusted present value; residual income; EVA; business's risk-adjusted equity cash flow; business's risk-adjusted free cash flow; risk-free-adjusted equity cash flow; and risk-free-adjusted free cash flow) always give the same value when identical assumptions are used. This result is logical, since all the methods analyze the same reality using the same assumptions; they differ only in the cash flows taken as the starting point for the valuation. We present all ten methods, allowing the required return to debt to be different from the cost of debt. Seven methods require an iterative process. Only the APV and business risk-adjusted cash flows methods do not require iteration.

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Paper provided by IESE Business School in its series IESE Research Papers with number D/549.

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Length: 27 pages
Date of creation: 17 Mar 2004
Date of revision:
Handle: RePEc:ebg:iesewp:d-0549
Contact details of provider: Postal: IESE Business School, Av Pearson 21, 08034 Barcelona, SPAIN
Web page: http://www.iese.edu/

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  1. Miles, James A. & Ezzell, John R., 1980. "The Weighted Average Cost of Capital, Perfect Capital Markets, and Project Life: A Clarification," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 15(03), pages 719-730, September.
  2. Steven N. Kaplan & Richard S. Ruback, 1994. "The Valuation of Cash Flow Forecasts: An Empirical Analysis," NBER Working Papers 4724, National Bureau of Economic Research, Inc.
  3. Lewellen, Wilbur G. & Emery, Douglas R., 1986. "Corporate Debt Management and the Value of the Firm," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 21(04), pages 415-426, December.
  4. Fernandez, Pablo, 2004. "The value of tax shields is NOT equal to the present value of tax shields," Journal of Financial Economics, Elsevier, vol. 73(1), pages 145-165, July.
  5. Isik Inselbag & Howard Kaufold, 1997. "Two Dcf Approaches For Valuing Companies Under Alternative Financing Strategies (And How To Choose Between Them)," Journal of Applied Corporate Finance, Morgan Stanley, vol. 10(1), pages 114-122.
  6. Richard S Ruback, 2002. "Capital Cash Flows: A Simple Approach to Valuing Risky Cash Flows," Financial Management, Financial Management Association, vol. 31(2), Summer.
  7. Myers, Stewart C, 1974. "Interactions of Corporate Financing and Investment Decisions-Implications for Capital Budgeting," Journal of Finance, American Finance Association, vol. 29(1), pages 1-25, March.
  8. Robert A. Taggart & Jr., 1991. "Consistent valuation and Cost of Capital Expressions With Corporate and Personal Taxes," Financial Management, Financial Management Association, vol. 20(3), Fall.
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