Chapter 3: CFROI Model and DCF/CFROI Arithmetic
Overview
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A map of the complete CFROI valuation model reveals the model's major components and serves as a helpful device for identifying and locating the major determinants of the value of firms.
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As a type of discounted cash flow (DCF) model, the CFROI model has three basic variables: forecast net cash receipts (NCRs), a discount rate, and a warranted value.
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Net cash receipts, the heart of valuation analysis, are explained. Because the CFROI model values the total firm, the relevant NCR stream represents receipts to which both debt and equity suppliers have a claim.
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The CFROI model separates the NCR stream into two parts, one from existing assets and one from future investments. A separate net present value (NPV) is calculated for each and the sum of those two values is the total value of the firm. This approach facilitates a plausibility check on the value of future investments by explicit identification of the ROIs and reinvestment rates that drive the NCRs from future investments.
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A simplified model firm is created with necessary financial data for detailed demonstrations of how, for the CFROI model, to (a) value existing assets, (b) value future investments, (c) verify the model has conceptually sound roots, and (d) calculate the CFROI performance metric.
CFROI valuation model map
The major components of the CFROI valuation model are presented in Figure 3.1. Consider the map a thinking apparatus for identifying and locating the major determinants of firms values. This book's explanation of the components will communicate...