EQUATIONS OF THE BOOK “INVESTMENT VALUATION”, 2ND ED.

BY DAMODARAN

t n CFt
Value  
t 1 (1  r)t

t  n CF to Equity
Value of Equity  
t 1 (1  k e ) t

t n CF to Firm
Value of Firm  
t 1 (1  WACC )t

CAPM E(R) = Rf + B (Rm- Rf)

Cost of Equity = E(Ri) = Rf + Equity Beta * (E(Rm) - Rf)

Cost of equity = Risk-free rate + Beta * (U.S. risk premium) + Country risk premium

Cost of equity = Risk-free rate + Beta * (U.S. risk premium + Default spread)

Relative standard deviation country x = Standard deviation country x / Standard deviation U.S.

Equity risk premium country x = Risk premium U.S. * Relative standard deviation country x

Country risk premium = Country default spread * ( Std. Dev. equity / Std. Dev. country bond)

E(Return)=Riskfree Rate+ Вeta (US premium) + λ (Country risk premium)

λ =% of revenues domesticallyfirm / % of revenues domesticallyavg firm

BETA ESTIMATION

Rj = a + b R m

BL = Bu (1+ ((1-t) D/E)

BL = Bu (1+ ((1-t)D/E) - Bdebt (1-t) (D/E)

ik Operating Incomei

i 1 Bi
Operating Income Firm

Changes in earnings firm, t = a + B * Changes in earnings Market, t

Interest Coverage Ratio = EBIT / Interest Expenses

Pre-tax cost of debt = Risk free rate US + Country default spread EM. MRK
 + Company default spread Company synthetic rating

MV of debt = Int. Exp. (1/r – 1 / r(1+r) n) + BV of debt / (1+r) n

Market value of equity = number of shares * price per share

1  Inflation Peso 
Cost of capital= (1  Cost of Capital USD )  
 1  Inflation USD 

Straight bond component = Market value of bond

Conversion option = Book value of bond at issuance – Straight bond component

Cost of PS = Preferred dividend per share / Market price per preferred share

CASH FLOW DEFINITIONS

EBIT (1 – tax rate)

- (Capital Expenditures – Depreciation)
- Change in non-cash working capital
= Free Cash Flow to Firm (FCFF)

Net Income
- (Capital Expenditures – Depreciation)
- Change in non-cash Working Capital
- (Principal Repaid – New Debt Issued)
- Preferred Dividend
+ Dividends and Stock Buybacks
= Free Cash Flow to Equity

Revenues
(-) Operating Expenses
= Operating Income
(-) Financial Expenses
(-) Taxes
= Net Income before Extraordinary Items
(-) or (+) Extraordinary Losses (Profits)

R&D, OPERATING LEASE ADJUSTMENTS

Adjusted operating income = Operating income + Current year’s R&D expense – Amortization
of research asset

Adjusted net income = Net income + Current year’s R&D expense – Amortization of research
asset
Debt Value of Operating Leases = PV of Operating Lease Expenses at the pre-tax cost of debt
Adjusted debt = Debt + Present value of lease commitments

Adjusted Operating Earnings = Operating Earnings + Operating Lease Expenses - Depreciation

on Leased Asset

Adjusted Net Capital Expenditures = Net Capital Expenditures + Current year’s R&D expenses -
Amortization of Research Asset

Adjusted Net Cap Ex = Net Capital Expenditures + Acquisitions of other firms - Amortization of
such acquisitions

GROWTH ESTIMATION – DIFFERENT MODELS

Net Income
- (1- δ) (Capital Expenditures - Depreciation)
- (1- δ) Working Capital Needs
= Free Cash flow to Equity
δ = Debt/Capital Ratio

Reinvestment Rate = Retained Earnings/ Current Earnings = Retention Ratio

Return on Investment = ROE = Net Income/Book Value of Equity

gEPS = Retained Earningst-1/ NIt-1 * ROE

= Retention Ratio * ROE
= b * ROE

gEPS= b *ROEt+1 +(ROEt+1– ROEt) ROEt

gEPS= b *ROEt+1 + (ROEt+1– ROEt)(BV of Equityt )/ ROEt (BV of Equityt)

ROE = ROC + D/E (ROC - i (1-t))

BV of capital = BV of Debt + BV of Equity

Reinvestment Rate = (Net Capital Expenditures + Change in WC)/EBIT(1-t)

Return on Investment = ROC = EBIT(1-t)/(BV of Debt + BV of Equity)

gEBIT = (Net Capital Expenditures + Change in WC)/EBIT(1-t) * ROC

Expected Growth Rate = ROCt+1 * Reinvestment rate

+(ROCt+1 – ROCt)/ROCt

Value = Expected Cash Flow Next Period / (r - g)

Stable Growth Payout Ratio = 1 - g/ ROE
Reinvestment Rate = Growth in Operating Income/ROC

Value of Bond = PV of coupons at market interest rate + PV of face value of bond at market
interest rate

RELATIVE VALUATION

DPS1
P0 
r  gn

P0 Payout Ratio * (1  g n )
 PE =
EPS0 r-g n

Value Market Value of Equity + Market Value of Debt


EBITDA Earnings before Interest, Taxes and Depreciation

Enterprise Value Market Value of Equity + Market Value of Debt - Cash


EBITDA Earnings before Interest, Taxes and Depreciation

FCFF = EBIT (1-t) - (Cex - Depr) -  Working Capital

= (EBITDA - Depr) (1-t) - (Cex - Depr) -  Working Capital
= EBITDA (1-t) + Depr (t) - Cex -  Working Capital

EBITDA (1 - t) + Depr (t) - Cex -  Working Capital

Value =
WACC - g

Value (1 - t) Depr (t)/EBITDA CEx/EBITDA  Working Capital/EBITDA

= + - -
EBITDA WACC - g WACC - g WACC - g WACC - g

Price/Book Value = Market Value of Equity

Book Value of Equity

BV0 * ROE * Payout Ratio * (1  g n )

P0 
r -g n

P0 ROE * Payout Ratio * (1  g n )

 PBV =
BV0 r -g n
 P0 ROE * Payout Ratio
 PBV =
BV0 r -g n

g = (1 - Payout ratio) * ROE

P0 ROE - g n
 PBV =
BV0 r -g n

FCFF1
V0 =
WACC - g

V0 FCFF1/BV
=
BV WACC - g

V0 ROC - g
=
BV WACC - g

n Price/ Sales= Market Value of Equity

Total Revenues

DPS1
P0 
r  gn

P0 Net Profit Margin * Payout Ratio * (1  g n )

 PS =
Sales 0 r -gn

Value/ Sales= Market Value of Equity + Market Value of Debt-Cash

Total Revenues

MERGERS AND ACQUSITIONS

Value of Control = Value of firm, with restructuring - Value of firm, without restructuring

Value of Control = Value of Firm - Status Quo

Value of Synergy = Value of Firm - Change of Control

V(AB) > V(A) + V(B) the cause of synergy.