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Dear Sir,
Regarding the “free cash flow to firm” , based on the example you have gone through in the lecture on the arithmetics using the financial statement proforma, I would like to understand why we don’t need to take out the interest impact on the tax paid amount shown on the proforma (i.e. less tax saving due to interest). I thought both the interest and the tax saving due to interest are taken into account in the cost of debt as part of the WACC?
Also, for the same free cash flows, is the market value of equity the same using either “free cash flow to firm” (by subtracting the market value of debt) or “free cash flow to equity” approach?” If so, I am just worried that I won’t know which approach to take if an exam question asks for the market value of equity.
Thanks in advance for your guidance.
Regards,
TimFor free cash flow to the firm we are looking at all the cash available to investors – both equity and debt. So we take the cash before interest. It is also before the tax saving on interest because this is taken account of in the calculation of the WACC which is used for the discounting.
It is usually clear which approach the examiner wants you to take. If it is not made clear then you would get credit for whichever one you take 🙂
Hi Sir,
Looking at your response makes me realize I actually answered my own question regarding to the tax saving impact being taken into account of in the cost of debt !
Thanks also for the second part of your guidance.
You solve my confusion and really make my day!! =)Much appreciated!
Tim
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