Constant Leverage Modeling: A Reply to 'a Tutorial on the Mckinsey Model for Valuation of Companies'

19 Pages Posted: 7 Jun 2006

See all articles by Ignacio Velez-Pareja

Ignacio Velez-Pareja

Grupo Consultor CAV Capital Advisory & Valuation

Joseph Tham

Duke University - Duke Center for International Development in the Sanford School of Public Policy; Academy of Public Administration under the President of the Republic of Kazakhstan

Date Written: June 6, 2006

Abstract

In this note we analyze the tutorial based on the McKinsey methodology for valuing companies. We have found that the McKinsey methodology has one of the most common mistakes mentioned in Tham and Vélez-Pareja (2004a and b): valuing cash flows with a constant cost of capital when the leverage is not constant. We calculate the proper firm and equity values by assuming the free cash flow, FCF calculated in the tutorial, and deriving the cash flow to equity, CFE. We develop the proper calculations of firm and equity values for constant leverage as well.

For both calculations we calculate the deviations from the values calculated in the tutorial.

Keywords: Valuation, free cash flow, discounting, accounting data

JEL Classification: G31, M41, C60

Suggested Citation

Velez-Pareja, Ignacio and Tham, Joseph, Constant Leverage Modeling: A Reply to 'a Tutorial on the Mckinsey Model for Valuation of Companies' (June 6, 2006). Available at SSRN: https://ssrn.com/abstract=906786 or http://dx.doi.org/10.2139/ssrn.906786

Ignacio Velez-Pareja (Contact Author)

Grupo Consultor CAV Capital Advisory & Valuation ( email )

Ave Miramar # 18-93 Apt 6A
Cartagena
Colombia
+573112333074 (Phone)

HOME PAGE: http://cashflow88.com/decisiones/decisiones.html

Joseph Tham

Duke University - Duke Center for International Development in the Sanford School of Public Policy ( email )

Box 90312
302, Towerview Dr, Rubenstein Hall, Room 272
Durham, NC 27708
United States
919-613-9234 (Phone)
919-681-0831 (Fax)

HOME PAGE: http://fds.duke.edu/db/Sanford/faculty/thamjx

Academy of Public Administration under the President of the Republic of Kazakhstan ( email )

Abay Street, 33a
Astana
Kazakhstan
+7 8 7172753422 (Phone)

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