## Present Value of Free Cash Flow to Equity (FCFE)

Intermediate level

In discounted cash flow (DCF) valuation techniques the value of the stock is estimated based upon present value of some measure of cash flow. Free cash flow to equity (FCFE) is generally described as cash flows available to the equity holder after payments to debt holders and after allowing for expenditures to maintain the company’s asset base.

### Intrinsic Stock Value (Valuation Summary)

**Vertex Pharmaceuticals Inc., free cash flow to equity (FCFE) forecast**

US$ in thousands, except per share data

Year | Value | FCFE_{t} or Terminal value (TV_{t}) |
Calculation | Present value at 16.99% |
---|---|---|---|---|

0^{1} |
FCFE_{0} |
1,464,740 | ||

1 | FCFE_{1} |
1,608,867 | = 1,464,740 × (1 + 9.84%) | 1,375,192 |

2 | FCFE_{2} |
1,786,278 | = 1,608,867 × (1 + 11.03%) | 1,305,076 |

3 | FCFE_{3} |
2,004,463 | = 1,786,278 × (1 + 12.21%) | 1,251,781 |

4 | FCFE_{4} |
2,273,099 | = 2,004,463 × (1 + 13.40%) | 1,213,367 |

5 | FCFE_{5} |
2,604,727 | = 2,273,099 × (1 + 14.59%) | 1,188,446 |

5 | Terminal value (TV_{5}) |
124,217,096 | = 2,604,727 × (1 + 14.59%) ÷ (16.99% – 14.59%) | 56,675,919 |

Intrinsic value of Vertex Pharmaceuticals Inc.’s common stock | 63,009,782 | |||

Intrinsic value of Vertex Pharmaceuticals Inc.’s common stock (per share) | $241.91 | |||

Current share price | $268.18 |

Based on: 10-K (filing date: 2020-02-13).

^{1} See details »

Disclaimer!

Valuation is based on standard assumptions. There may exist specific factors relevant to stock value and omitted here. In such a case, the real stock value may differ significantly form the estimated. If you want to use the estimated intrinsic stock value in investment decision making process, do so at your own risk.

### Required Rate of Return (*r*)

Assumptions | ||

Rate of return on LT Treasury Composite^{1} |
R_{F} |
1.22% |

Expected rate of return on market portfolio^{2} |
E(R)_{M} |
12.07% |

Systematic risk of Vertex Pharmaceuticals Inc.’s common stock | β_{VRTX} |
1.45 |

Required rate of return on Vertex Pharmaceuticals Inc.’s common stock^{3} |
r_{VRTX} |
16.99% |

^{1} Unweighted average of bid yields on all outstanding fixed-coupon U.S. Treasury bonds neither due or callable in less than 10 years (risk-free rate of return proxy).

^{2} See details »

^{3} *r*_{VRTX} = *R _{F}* + β

_{VRTX}[

*E*(

*R*) –

_{M}*R*]

_{F}= 1.22% + 1.45 [12.07% – 1.22%]

= 16.99%

### FCFE Growth Rate (*g*)

#### FCFE growth rate (*g*) implied by PRAT model

**Vertex Pharmaceuticals Inc., PRAT model**

Based on: 10-K (filing date: 2020-02-13), 10-K (filing date: 2019-02-13), 10-K (filing date: 2018-02-15), 10-K (filing date: 2017-02-23), 10-K (filing date: 2016-02-16).

*2019 Calculations*

^{1} Company does not pay dividends

^{2} Profit margin = 100 × Net income (loss) attributable to Vertex ÷ Revenues

= 100 × 1,176,810 ÷ 4,162,821 = 28.27%

^{3} Asset turnover = Revenues ÷ Total assets

= 4,162,821 ÷ 8,318,465 = 0.50

^{4} Financial leverage = Total assets ÷ Total Vertex shareholders’ equity

= 8,318,465 ÷ 6,085,244 = 1.37

^{5} *g* = Retention rate × Profit margin × Asset turnover × Financial leverage

= 1.00 × 9.44% × 0.54 × 1.94 = 9.84%

#### FCFE growth rate (*g*) implied by single-stage model

*g* = 100 × (Equity market value_{0} × *r* – FCFE_{0}) ÷ (Equity market value_{0} + FCFE_{0})

= 100 × (69,852,130 × 16.99% – 1,464,740) ÷ (69,852,130 + 1,464,740) = **14.59%**

where:

Equity market value_{0} = current market value of Vertex Pharmaceuticals Inc.’s common stock (US$ in thousands)

FCFE_{0} = the last year Vertex Pharmaceuticals Inc.’s free cash flow to equity (US$ in thousands)

*r* = required rate of return on Vertex Pharmaceuticals Inc.’s common stock

#### FCFE growth rate (*g*) forecast

**Vertex Pharmaceuticals Inc., H-model**

Year | Value | g_{t} |
---|---|---|

1 | g_{1} |
9.84% |

2 | g_{2} |
11.03% |

3 | g_{3} |
12.21% |

4 | g_{4} |
13.40% |

5 and thereafter | g_{5} |
14.59% |

where:

*g*_{1} is implied by PRAT model

*g*_{5} is implied by single-stage model

*g*_{2}, *g*_{3} and *g*_{4} are calculated using linear interpoltion between *g*_{1} and *g*_{5}

*Calculations*

*g*_{2} = *g*_{1} + (*g*_{5} – *g*_{1}) × (2 – 1) ÷ (5 – 1)

= 9.84% + (14.59% – 9.84%) × (2 – 1) ÷ (5 – 1) = 11.03%

*g*_{3} = *g*_{1} + (*g*_{5} – *g*_{1}) × (3 – 1) ÷ (5 – 1)

= 9.84% + (14.59% – 9.84%) × (3 – 1) ÷ (5 – 1) = 12.21%

*g*_{4} = *g*_{1} + (*g*_{5} – *g*_{1}) × (4 – 1) ÷ (5 – 1)

= 9.84% + (14.59% – 9.84%) × (4 – 1) ÷ (5 – 1) = 13.40%