# Raytheon Co. (RTN)

## Present Value of Free Cash Flow to the Firm (FCFF)

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 the firm (FCFF) is generally described as cash flows after direct costs and before any payments to capital suppliers.

### Intrinsic Stock Value (Valuation Summary)

Raytheon Co., free cash flow to the firm (FCFF) forecast

USD \$ in millions, except per share data

Year Value FCFFt or Terminal value (TVt) Calculation Present value at 10.61%
01 FCFF0 2,787
1 FCFF1 3,038  = 2,787  × (1 + 9.02%) 2,747
2 FCFF2 3,284  = 3,038  × (1 + 8.08%) 2,684
3 FCFF3 3,518  = 3,284  × (1 + 7.13%) 2,599
4 FCFF4 3,736  = 3,518  × (1 + 6.19%) 2,496
5 FCFF5 3,932  = 3,736  × (1 + 5.24%) 2,374
5 Terminal value (TV5) 77,095  = 3,932  × (1 + 5.24%) ÷ (10.61%5.24%) 46,561
Intrinsic value of Raytheon Co.’s capital 59,461
Less: Commercial paper and long-term debt (fair value) 5,363
Intrinsic value of Raytheon Co.’s common stock 54,098
Intrinsic value of Raytheon Co.’s common stock (per share) \$193.30
Current share price \$176.09

Based on: 10-K (filing date: 2019-02-13).

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.

### Weighted Average Cost of Capital (WACC)

Raytheon Co., cost of capital

Value1 Weight Required rate of return2 Calculation
Equity (fair value) 49,282  0.90 11.46%
Commercial paper and long-term debt (fair value) 5,363  0.10 2.80% = 3.95% × (1 – 29.23%)

Based on: 10-K (filing date: 2019-02-13).

1 USD \$ in millions

Equity (fair value) = No. shares of common stock outstanding × Current share price
= 279,871,000 × \$176.09 = \$49,282,484,390.00

Commercial paper and long-term debt (fair value). See Details »

2 Required rate of return on equity is estimated by using CAPM. See Details »

Required rate of return on debt. See Details »

Required rate of return on debt is after tax.

Estimated (average) effective income tax rate
= (8.40% + 35.80% + 28.30% + 26.30% + 26.50%) ÷ 5 = 29.23%

WACC = 10.61%

### FCFF Growth Rate (g)

#### FCFF growth rate (g) implied by PRAT model

Raytheon Co., PRAT model

Average Dec 31, 2018 Dec 31, 2017 Dec 31, 2016 Dec 31, 2015 Dec 31, 2014
Selected Financial Data (USD \$ in millions)
Interest expense 184  205  232  233  213
Income (loss) from discontinued operations, net of tax (1) 13  65
Net income attributable to Raytheon Company 2,909  2,024  2,211  2,074  2,244
Effective income tax rate (EITR)1 8.40% 35.80% 28.30% 26.30% 26.50%
Interest expense, after tax2 169  132  166  172  157
Add: Dividends declared 989  927  864  813  746
Interest expense (after tax) and dividends 1,158  1,059  1,030  985  903
EBIT(1 – EITR)3 3,079  2,154  2,376  2,233  2,336
Commercial paper 300  300  —  —  —
Long-term debt 4,755  4,750  5,335  5,330  5,330
Total Raytheon Company stockholders’ equity 11,472  9,963  10,066  10,128  9,525
Total capital 16,527  15,013  15,401  15,458  14,855
Ratios
Retention rate (RR)4 0.62 0.51 0.57 0.56 0.61
Return on invested capital (ROIC)5 18.63% 14.34% 15.43% 14.44% 15.72%
Averages
RR 0.57
ROIC 15.71%
Growth rate of FCFF (g)6 9.02%

Based on: 10-K (filing date: 2019-02-13), 10-K (filing date: 2018-02-14), 10-K (filing date: 2017-02-15), 10-K (filing date: 2016-02-10), 10-K (filing date: 2015-02-11).

2018 Calculations

2 Interest expense, after tax = Interest expense × (1 – EITR)
= 184 × (1 – 8.40%) = 169

3 EBIT(1 – EITR) = Net income attributable to Raytheon Company – Income (loss) from discontinued operations, net of tax + Interest expense, after tax
= 2,909-1 + 169 = 3,079

4 RR = [EBIT(1 – EITR) – Interest expense (after tax) and dividends] ÷ EBIT(1 – EITR)
= [3,0791,158] ÷ 3,079 = 0.62

5 ROIC = 100 × EBIT(1 – EITR) ÷ Total capital
= 100 × 3,079 ÷ 16,527 = 18.63%

6 g = RR × ROIC
= 0.57 × 15.71% = 9.02%

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

g = 100 × (Total capital, fair value0 × WACC – FCFF0) ÷ (Total capital, fair value0 + FCFF0)
= 100 × (54,645 × 10.61%2,787) ÷ (54,645 + 2,787) = 5.24%

where:
Total capital, fair value0 = current fair value of Raytheon Co.’s debt and equity (USD \$ in millions)
FCFF0 = last year Raytheon Co.’s free cash flow to the firm (USD \$ in millions)
WACC = weighted average cost of Raytheon Co.’s capital

#### FCFF growth rate (g) forecast

Raytheon Co., H-model

Year Value gt
1 g1 9.02%
2 g2 8.08%
3 g3 7.13%
4 g4 6.19%
5 and thereafter g5 5.24%

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)
= 9.02% + (5.24%9.02%) × (2 – 1) ÷ (5 – 1) = 8.08%

g3 = g1 + (g5g1) × (3 – 1) ÷ (5 – 1)
= 9.02% + (5.24%9.02%) × (3 – 1) ÷ (5 – 1) = 7.13%

g4 = g1 + (g5g1) × (4 – 1) ÷ (5 – 1)
= 9.02% + (5.24%9.02%) × (4 – 1) ÷ (5 – 1) = 6.19%