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Corporate Finance and Controlling M4

Master of Business Administration & Engineering

Prof. Katarina Adam

28.04.2013

Table of Contents International Controlling


Course Overview and Topics
1. International Controlling - Context 1. Terminology
2. IFRS vs. HGB 3. Basel III and its effects

4. International Harmonization and Standardization 5. Organizational Design of International Corporations 6. Organizational Integration of the Finance Function 7. Corporate Governance and Ethics

2. Corporate Finance 1. Basic of Investment Criteria: Net present Value, IRR 2. Long-term Finance: equity finance, debt finance, leasing 3. Economic Value Add (EVA) 4. Weighted Average Cost of Capital (WACC) 5. Venture Capital, IPO, 6. Stocks and Stock Evaluation

3. Cash Planning & Liquidity Management 1. Cash Flow Management 2. Working Capital Management 3. Finance Analysis and Planning 4. Lifecycle Costing 4. Managerial Accounting (Controlling) 1. Overview 2. Product Costing Methods a. Process Costing b. Activity-based Costing c. Job-Order Costing 3. Project Controlling 4. Value Chain Controlling 5. Profit Center Reporting 6. Segment Reporting 7. Transfer Pricing 5. Risk Management 1. Defining Risk 2. Types of Risk 3. Portfolio Theory and the Capital Asset pricing Model (CAPM) 4. Risk Management

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EVA => Economic Value Added

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Three Methods of Valuation with Leverage


1.
2. 3.

Adjusted Present Value (APV) Flows to Equity (FTE) WACC

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Example: Celebrities Travel Service Corporation

Assume:
Tc = 30% r0 = 11.32% (cost of unlevered equity) rd = 10% EBIT = $145,500 per year in perpetuity (operating cash flow)
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Book Value Balance Sheet


Example - Celebrities Travel Servicecontinued

Balance Sheet (Book Net Working Capital Fixed Assets Total assets

Value, thousands) 150 250 Debt 750 650 Equity 900 900 Total liabilities

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Assume MM Theory

According to the MM Theory and Proposition I:

VL

VU
TC D

TC D
.30 250 ,000 75,000

So the Value of Celebrities Travel Service Ventures increases by $75,000 due to the debt tax shield and this increase is added to the equity value of the firm.
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Market Value Balance Sheet

Balance Sheet (Market Value, Net Working Capital 150 Fixed Assets 825 Total assets 975

thousands) 250 Debt 725 Equity 975 Total liabilities

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Adjusted Present Value Approach


What is the value of an all-equity financed firm

(or project)? What is the value of any and all additional side effects to financing?

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All-Equity Value (APV)


The all equity financed return is 11.32% The EBIT is $145,500

Value of the all-equity financed firm

= (EBIT)(1 - Tc )/r0
= [(145,500) (1 - .3)]/.1132

= $900.000

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Additional Financing Side Effect (APV)


Present Value of the Tax Shield from Debt Financing

Tc (rD D)/rD = TcD {MM Prop. I}

= .30 ($250,000)
= $75,000

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Valuation of Celebrities Travel Seervice Corporation (APV)

Adjusted Present Value of the firm is = NPV (under all-equity financing) + Present Value of financing effects = $900,000 + $75,000 = $975,000
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Flows to Equity Approach


(also called Equity Residual Method)

Estimate cash flows to levered equity


Estimate return on equity Value the after-tax cash flows to levered equity at

the required return on levered equity

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Estimation of Cash Flows (FTE)


Annual after-tax cash flow to levered equity

= (EBIT - rDD)(1 - Tc ) = [(145,500 - (.10)(250,000)] (1 - .30)


= $84,350 per year

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Estimate of Return on Levered Equity (FTE)


rE = r0 + (1 - T ) (D/E) (r0 - rD) {MM Prop. II} = .1132 + (1 - .3) (250/725) (.1132 - .10) = .1164 = 11.64%

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Valuation of Celebrities Travel Service Corporation (FTE)


Levered Equity Value
= Cash Flow to Equity/rE

= $84,350/.1164 = $725,000 (approx.)


V=D+E V = $250,000 + $725,000 = $975,000

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After Tax WACC


Tax Adjusted Formula

WACC

D (1 Tc ) V
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rD

E V

rE
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After Tax WACC

WACC

D (1 Tc ) V

rD

E V

rE

250 WACC (1 .30) .10 975 .1045 10.45%


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725 .1164 975

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Valuation of Celebrities Skis Ventures Corporation (WACC)


EBIT is $145,500 per year in perpetuity

Value

EBIT (1 TC ) WACC $145 ,500 (1 .30 ) .1045 $975 ,000


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Formula for APV


APV NPV (all equity) UCFt (1 r0 ) t Financing Effects

PV of Financing Effects

t 0

where UCF is the after-tax cash flow to unlevered equity and r0 is the required return on unlevered equity.

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Formula for FTE

Levered Equity Value


t 0

LCFt (1 rE ) t

where LCF is the after-tax (and after interest) cash flow to levered equity and r is the required return on levered equity.

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Formula for WACC

Levered Asset Value


t

ATCFt t ( 1 WACC ) 0

where ATCF is the after-tax cash flow to both debt and (levered) equity and WACC is the weighted-average cost of capital.

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Summary for the Application of the Three Methods of Valuation


WACC and FTE assume that the firms debt ratio is

approximately constant for the firm (or the life of the project)

Used in most cases of valuation

APV assumes that the level of debt is known over

the life of the project or firm.

Good for LBOs, Real Options, Leases, and other cases

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