Question

1. What is capital intensity ratio? spontaneous-liabilities-to-sales ratio? What’s self-supporting growth rate? How to calculate the growth rate?

2. How to estimate the value of operations for a firm based on financial forecasting?

Answer 1

Answer:-

1.) The capital intensity ratio is a financial calculation measuring how much a company is invested in total assets compared to how much it is earning in revenue. It is calculated by dividing the value of its total assets in a specific time period by the amount of revenue it has earned in the same period. What the capital intensity ratio shows is just how much capital it takes a firm to generate a single dollar of revenue.

Capital Intensity Ratio = Total Assets / Sales

Spontaneous liabilities are the obligations of a company that are accumulated automatically as a result of the company's day-to-day business. An increase in spontaneous liabilities is normally tied to an increase in a company's cost of goods sold (or cost of sales), which are the costs involved in production.

Spontaneous-liabilities-to-sales ratio (L0* / S0): The higher the firm’s spontaneous liabilities, the smaller AFN will be—other things held constant.

L0* = Spontaneous Liabilities

S0 = Sales

Therefore, Spontaneous-liabilities-to-sales ratio = L0* = Spontaneous Liabilities /  S0 = Sales

Where AFN = Additinal assets - Additional spontaneous liabilities - Reinvested profit

The self-supporting growth rate can be defined as the rate at which a company's sales increase without generating funds from external sources.

To calculate growth rate, start by subtracting the past value from the current value. Then, divide that number by the past value. Finally, multiply your answer by 100 to express it as a percentage.  For example, if the value of your company was $100 and now it's $200, first you'd subtract 100 from 200 and get 100.

2.)  The value of the firm is measured as the sum of the value of the firm's equity and the value of the debt. Any firm's objective is to maximize its value for the shareholders. The value of the firm can be measured as the present value of the operating free cash flows over time.

A financial forecast is an estimate of future financial outcomes for a company. Financial forecasts estimate future income and expenses for a business over a period of time, generally the next year.

So for a firm based on financial forecasting, the estimate of value of operations may be done by the following:-

1. Forecast Assets

2. Forecast Liabilities and Net Worth, leaving out the liabilities you want to remain free (e.g. Bank Debt)

3. Use the difference as the “Plug” for the funding need (e.g. Bank Debt) and compute the implied Net Income.

4. Use the implied Net Income to compute the implied Net Worth and plug back into Step 2 until you converge.

We may use the free cash flow valuation to arrive at the value :

In free cash flow valuation, intrinsic value of a company equals the present value of its free cash flow, the net cash flow left over for distribution to stockholders and debt-holders in each period.

There are two approaches to valuation using free cash flow. The first involves discounting projected free cash flow to firm (FCFF) at the weighted average cost of the capital (WACC) to find a company's total value (i.e. sum of its equity and debt). The second involves discounting the free cash flow to equity (FCFE) at the cost of equity to find the value of the company's shareholders equity.

he most basic single-stage free cash flow valuation models are similar to the dividend discount model.

When we are interested in finding total value of a company, we need to discount the free cash flow to firm at the company's cost of capital:

Firm Value =	FCFF0 × (1 + g)	=	FCFF1
WACC − g	WACC − g

Where FCFF₁ is the free cash flow to firm expected next year, WACC is the weighted-average cost of capital and g is the growth rate of FCFF.

We can determine the company's equity value from its total firm value by subtracting the market value of debt:

Equity Value = Total Business Value − Market Value of Debt

If we have to work with free cash flow to equity (FCFE) which is expected to grow at rate g, we need to use the cost of equity (k_e) in the denominator:

Equity Value =	FCFE1
ke − g