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Present Value of Free Cash Flow to Equity (FCFE)

Difficulty: Intermediate

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)

Abbott Laboratories, free cash flow to equity (FCFE) forecast

USD $ in millions, except per share data

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Year Value FCFEt or Terminal value (TVt) Calculation Present value at 17.38%
01 FCFE0 1,493 
1 FCFE1 1,553  = 1,493 × (1 + 4.00%) 1,323 
2 FCFE2 1,662  = 1,553 × (1 + 7.01%) 1,206 
3 FCFE3 1,828  = 1,662 × (1 + 10.01%) 1,130 
4 FCFE4 2,066  = 1,828 × (1 + 13.01%) 1,088 
5 FCFE5 2,396  = 2,066 × (1 + 16.01%) 1,075 
5 Terminal value (TV5) 203,084  = 2,396 × (1 + 16.01%) ÷ (17.38%16.01%) 91,138 
Intrinsic value of Abbott's common stock 96,960 
Intrinsic value of Abbott's common stock (per share) $55.21
Current share price $72.04

Based on: 10-K (filing date: 2018-02-16).

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)

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Assumptions
Rate of return on LT Treasury Composite1 RF 3.29%
Expected rate of return on market portfolio2 E(RM) 12.36%
Systematic risk (β) of Abbott's common stock βABT 1.55
Required rate of return on Abbott's common stock3 rABT 17.38%

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).

Calculations

2 See Details »

3 rABT = RF + βABT [E(RM) – RF]
= 3.29% + 1.55 [12.36%3.29%]
= 17.38%


FCFE Growth Rate (g)

FCFE growth rate (g) implied by PRAT model

Abbott Laboratories, PRAT model

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Average Dec 31, 2017 Dec 31, 2016 Dec 31, 2015 Dec 31, 2014 Dec 31, 2013
Selected Financial Data (USD $ in millions)
Cash dividends declared on common shares 1,947  1,547  1,464  1,363  1,002 
Net earnings 477  1,400  4,423  2,284  2,576 
Net sales 27,390  20,853  20,405  20,247  21,848 
Total assets 76,250  52,666  41,247  41,275  42,953 
Total Abbott shareholders' investment 30,897  20,538  21,211  21,526  25,171 
Ratios
Retention rate1 -3.08 -0.11 0.67 0.40 0.61
Profit margin2 1.74% 6.71% 21.68% 11.28% 11.79%
Asset turnover3 0.36 0.40 0.49 0.49 0.51
Financial leverage4 2.47 2.56 1.94 1.92 1.71
Averages
Retention rate 0.39
Profit margin 10.64%
Asset turnover 0.45
Financial leverage 2.12
Growth rate of FCFE (g)5 4.00%

Based on: 10-K (filing date: 2018-02-16), 10-K (filing date: 2017-02-17), 10-K (filing date: 2016-02-19), 10-K (filing date: 2015-02-27), 10-K (filing date: 2014-02-21).

2017 Calculations

1 Retention rate = (Net earnings – Cash dividends declared on common shares) ÷ Net earnings
= (4771,947) ÷ 477 = -3.08

2 Profit margin = 100 × Net earnings ÷ Net sales
= 100 × 477 ÷ 27,390 = 1.74%

3 Asset turnover = Net sales ÷ Total assets
= 27,390 ÷ 76,250 = 0.36

4 Financial leverage = Total assets ÷ Total Abbott shareholders' investment
= 76,250 ÷ 30,897 = 2.47

5 g = Retention rate × Profit margin × Asset turnover × Financial leverage
= 0.39 × 10.64% × 0.45 × 2.12 = 4.00%


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

g = 100 × (Equity market value0 × r – FCFE0) ÷ (Equity market value0 + FCFE0)
= 100 × (126,526 × 17.38%1,493) ÷ (126,526 + 1,493) = 16.01%

where:
Equity market value0 = current market value of Abbott's common stock (USD $ in millions)
FCFE0 = last year Abbott's free cash flow to equity (USD $ in millions)
r = required rate of return on Abbott's common stock


FCFE growth rate (g) forecast

Abbott Laboratories, H-model

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Year Value gt
1 g1 4.00%
2 g2 7.01%
3 g3 10.01%
4 g4 13.01%
5 and thereafter g5 16.01%

where:
g1 is implied by PRAT model
g5 is implied by single-stage model
g2, g3 and g4 are calculated using linear interpoltion between g1 and g5

Calculations

g2 = g1 + (g5g1) × (2 – 1) ÷ (5 – 1)
= 4.00% + (16.01%4.00%) × (2 – 1) ÷ (5 – 1) = 7.01%

g3 = g1 + (g5g1) × (3 – 1) ÷ (5 – 1)
= 4.00% + (16.01%4.00%) × (3 – 1) ÷ (5 – 1) = 10.01%

g4 = g1 + (g5g1) × (4 – 1) ÷ (5 – 1)
= 4.00% + (16.01%4.00%) × (4 – 1) ÷ (5 – 1) = 13.01%