What is the point of adding a debt tax shield to the adjusted present value method to calculate Ke when we can use WACC?
I don’t know if I understood you correctly but under the APV method, you’re assuming an all-equity firm which carries NO debt, so you’re discounting the FCFF (before any debt repayments) at only the cost of equity, as the all-equity assumption translates into zero debt on B/S. To account for the effect of debt, you add in contributions from NPV of interest tax shields by multiplying the debt/capital ratio by the APV value as an estimate, (or discount the tax-deductible interest expenses over the projection +terminal value), and add in expected bankrutcy costs, and there you have firm value via the APV approach. The key is discounting with the cost of equity since you’re assuming an all-equity firm.
apv is only justified when wacc is changing. If wacc is steady, just use a regular DCF approach. That’s why apv is particularly suitable for LBOs where cap struct is mutating rapidly (e.g. accelerated debt paydown). (On the other hand, LBO tends to use decision metrics other than NPV, so that’s why apv has no home.)
Hi, Trying to value a firm using DCF method and the question is iff the firm is employing debt thus has periodic principal and interest payments as well as employment of new debt within the valuation period how would the FCF be calculated? I tried a few different approaches one of them was to value the EV through EBIT*(1-tax rate) and then no-cash adjustments (CAPEX, Cahnge WC, deprc) so no reflection of interest or principal payments. I used a WACC with a 30% D/D+E ratio constant. This one worked (of course) however not sure if this is the right way of doing the discounting since no debt activity (principal or interest) is being reflected. What would you say if I want to start with NOPAT, then adjust for non-cash items and CAPEX and WC and then adjust for any principal payments or new debt coming in (just like in the cash from financing of a cash flow statement) and then discount the CFs using a WACC but this WACC would be lower due to the inreased amount of debt in the capital structure thus increasing the EV of the firm. Last question I have is whether to deduct the Net Debt in year 0 from the EV or not? Casue I am thinking if I have acounted for all the principal portion of the debt activity in the casf flows and the interest portion of the debt employed is already being accounted in the WACC maybe I need not to deduct the Net debt to get to NEV but instead assume my NEV is the sum of all the DCF? I know it is lenghty question guys and I know there is never one right way to deal with such an approach like DCF but try to help me out if anyone can basically just looking for a few key advise that would allow me to spit another model to give a more multi-faceted view. Thanks,
please don’t hijack threads like this.