The Most Common Error in Valuations using WACC

17 Pages Posted:

See all articles by Pablo Fernandez

Pablo Fernandez

University of Navarra - IESE Business School

Date Written: January 2, 2020

Abstract

To value shares there are two usual methods that, if properly applied, provide the same value: 1/ Present value of expected free cash flows (FCF) discounted with the WACC rate and then, subtract the value of debt; and 2/ Present value of expected equity cash flows (ECF) discounted with the Ke rate (required return to equity).
Both valuations must provide the same result because both methods analyze the same reality under the same hypotheses; they differ only in the cash flows taken as the starting point for the valuation.
But in many valuations performed by investment banks, analysts, consultants, finance professors… both methods do not provide the same value.
This paper presents a real valuation performed by a well-known investment bank, with two very different values: €6,9 million using method 1/, and €4,2 million using method 2/.

Keywords: company valuation; WACC; required return to equity; discounted cash flow; equity cash flows; free cash flows

JEL Classification: G12, G31, M21

Suggested Citation

Fernandez, Pablo, The Most Common Error in Valuations using WACC (January 2, 2020). Available at SSRN: https://ssrn.com/abstract=

Pablo Fernandez (Contact Author)

University of Navarra - IESE Business School ( email )

Camino del Cerro del Aguila 3
28023 Madrid
Spain
+34 91 357 0809 (Phone)
+34 91 357 2913 (Fax)

HOME PAGE: http://web.iese.edu/PabloFernandez/

Register to save articles to
your library

Register

Paper statistics

Downloads
2,095
Abstract Views
3,544
PlumX Metrics