Posted by buddyinvest > 2016-05-22 23:47 | Report Abuse

Mana ko salin ni, dol?

Posted by fung9815 > 2016-05-23 14:16 | Report Abuse

Have to agree that free cash flow (FCF) yield is one of the best valuation yardsticks for any investor. In fact, it forms an important part of the famous discounted cash flow (DCF) valuation method. However, it has no less of drawbacks.

Valuation is a forward-looking exercise, so the key is to estimate future FCFs (contrary to historical-looking like many investors do).

While estimating EBITDA is pretty straight forward, the estimation of changes in working capital (WC) and capex is typically beyond the knowledge of investors (even for the best fund managers). Without any solid guidance from the insiders, we can only make very risky guesses, at best.

WC changes and capex rely heavily on management decisions, and they can be very volatile. Some years the management may want to pile up inventories, some years they may want to pay out the creditors more, some years they may want to invest into new projects (capex) and some years they may want to cut down capex. The uncertainty of these components makes FCF-yield valuation difficult and risky. If you are wrong in your valuation in a big way, your potential permanent loss of capital can be significant.

Of course, there is an oversimplified way of estimating FCFs, i.e. imposing a growth rate on the historical FCF figure. There nothing wrong of making estimation this way but the assumptions should be as conservative as possible. At least, if you are wrong, you already gave yourself some margin of safety.

There is another over-oversimplified way of estimating FCFs, i.e. imposing a discount (sometimes premium) on the net profits. Normally, management spends more capex than the depreciations, so this way might work as well.

Anyway, FCF yield is still the way to go, if you know how to do it. :)

Posted by VenFx > 2016-05-23 21:40 | Report Abuse

Thx for the easy understanding article.

Posted by Invest1188 > 2016-05-24 23:52 | Report Abuse

I like this writing