Question

For each of the statements below, indicate whether the statement is True or False AND provide one or two explanatory sentences to support your answer.

a. In New Zealand, the Capital Asset Pricing Model (CAPM) that is used to compute the cost of equity capital adjusts the risk free rate for the average investor tax rate but this adjustment is not made for the risk free rate component in the post-tax market risk premium.

b. Reinvestments in the firm’s net operating assets are deducted from NOPAT to arrive at free cash flows to the firm to maintain the firm’s operating capability and to grow the firm.

c. To ensure the free cash flows in the perpetuity (terminal) period grow at a constant terminal growth rate g, the relationships between components in the income statement and balance sheet must be the same in the last year of the horizon period and first year of the perpetuity (terminal) period.

d. When using the market multiples approach to value the target’s firm/enterprise value, we would use multiples based on comparable companies’ net profit after tax and book value of equity and apply these multiples to the target firm’s net operating profit after tax and net operating assets.

Answer 1

Answer A

In capital budgeting, company accountants and economic analysts regularly use the capital asset pricing model (CAPM) to estimate the fee of shareholder fairness. Described as the connection among systematic threat and predicted go back for belongings, CAPM is broadly used for the pricing of unstable securities, producing predicted returns for belongings given the related threat, and calculating fees of capital.

The Capital Asset Pricing Model (CAPM) describes the connection among systematic threat and predicted go back for belongings, specifically stocks. CAPM is broadly used at some stage in finance for pricing unstable securities and producing predicted returns for belongings given the threat of these belongings and fee of capital.

The marketplace threat top class is the distinction among the predicted go back on a marketplace portfolio and the threat-unfastened fee. The marketplace threat top class is identical to the slope of the safety marketplace line (SML), a graphical illustration of the capital asset pricing model (CAPM). CAPM measures the desired fee of go back on fairness investments, and it's miles an crucial detail of present day portfolio concept and discounted coins waft valuation.

Market threat top class describes the connection among returns from an fairness marketplace portfolio and treasury bond yields. The threat top class displays the desired returns, ancient returns, and predicted returns. The ancient marketplace threat top class could be the identical for all buyers because the cost is primarily based totally on what really happened. The required and predicted marketplace premiums, however, will fluctuate from investor to investor primarily based totally on threat tolerance and making an investment styles.

Answer2

    Free coins waft to the organization (FCFF) represents the quantity of coins waft from operations to be had for distribution after accounting for depreciation costs, taxes, running capital, and investments. FCFF is a dimension of a business enterprise's profitability in the end costs and reinvestments. It is one of the many benchmarks used to evaluate and examine a organization's economic health.

FCFF represents the coins to be had to buyers after a business enterprise can pay all its commercial enterprise fees, invests in contemporary-day belongings (e.g., inventory), and invests in long-time period belongings (e.g., equipment). FCFF consists of bondholders and stockholders as beneficiaries while thinking about the cash left over for buyers.

The FCFF calculation is a hallmark of a business enterprise's operations and its overall performance. FCFF considers all coins inflows withinside the shape of revenues, all coins outflows withinside the shape of everyday costs, and all reinvested coins to develop the commercial enterprise. The cash left over after engaging in these kind of operations represents a business enterprise's FCFF.

Net working income after tax (NOPAT) is a economic degree that suggests how properly a business enterprise carried out thru its middle operations, internet of taxes. NOPAT is often utilized in financial cost added (EVA) calculations and is a extra correct study working performance for leveraged corporations. NOPAT does now no longer consist of the tax financial savings many corporations get due to present debt.

Net working income after tax (NOPAT) is a business enterprise's ability coins profits if its capitalization had been unleveraged — this is, if it had no debt. The discern would not consist of one-time losses or expenses; those do not offer a real illustration of a business enterprise's genuine profitability. Some of those expenses can also additionally consist of expenses referring to a merger or acquisition, which, if considered, do not always display an correct photo of the business enterprise's operations despite the fact that they will have an effect on the business enterprise's backside line that year.  

NOPAT=Operating Income×(1−Tax Rate)

where: Operating Income=Gross earnings much less working costs

​Answer3.

Terminal cost (TV) is the cost of a commercial enterprise or venture past the forecast length while destiny coins flows may be anticipated. Terminal cost assumes a commercial enterprise will develop at a hard and fast boom fee for all time after the forecast length. Terminal cost regularly contains a massive percent of the whole assessed cost.

Forecasting receives murkier because the time horizon grows longer. This holds genuine in finance as properly, particularly in relation to estimating a business enterprise's coins flows properly into the destiny. At the identical time, companies want to be valued. To "solve" this, analysts use economic models, consisting of discounted coins waft (DCF), together with sure assumptions to derive the whole cost of a commercial enterprise or venture.

Discounted coins waft (DCF) is a famous approach utilized in feasibility studies, company acquisitions, and inventory marketplace valuation. This approach is primarily based totally at the concept that an asset's cost is identical to all destiny coins flows derived from that asset. These coins flows need to be discounted to the prevailing cost at a reduction fee representing the fee of capital, consisting of the hobby fee.

Perpetuity Method

Discounting is essential due to the fact the time cost of cash creates a discrepancy among the contemporary-day and destiny values of a given sum of cash. In commercial enterprise valuation, unfastened coins waft or dividends may be forecast for a discrete length of time, however the overall performance of ongoing worries turns into extra difficult to estimate because the projections stretch in addition into the destiny. Moreover, it's miles hard to decide the best time while a business enterprise can also additionally quit operations.

Exit Multiple Method

If buyers count on a finite window of operations, there's no want to apply the perpetuity boom model. Instead, the terminal cost need to replicate the internet realizable cost of a business enterprise's belongings at that time. This regularly means that the fairness could be received with the aid of using a bigger organization, and the cost of acquisitions are regularly calculated with go out multiples.

Answer4.

The multiples method is a valuation concept primarily based totally at the concept that comparable belongings promote at comparable prices. It assumes that a ratio evaluating cost to a organization-precise variable, consisting of working margins, or coins waft is the identical throughout comparable companies.

Generally, multiples is a widespread time period for a category of various signs that may be used to cost a inventory. A a couple of is sincerely a ratio this is calculated with the aid of using dividing the marketplace or anticipated cost of an asset with the aid of using a particular object at the economic statements. The multiples method is a comparables evaluation approach that seeks to cost comparable corporations the usage of the identical economic metrics.

An analyst the usage of the valuation method assumes that a selected ratio is relevant and applies to diverse corporations working in the identical line of commercial enterprise or industry. In different words, the concept at the back of the multiples evaluation is that once companies are comparable, the multiples method may be used to decide the cost of 1 organization primarily based totally at the cost of another. The multiples method seeks to seize a lot of a organization's working and economic characteristics (e.g., predicted boom) in a unmarried wide variety that may be elevated with the aid of using a particular economic metric (e.g., EBITDA) to yield an business enterprise or fairness cost.