Company Valuation Under IFRS : Interpreting and Forecasting ...

Company valuation under IFRS
Starting with the equity page, we have assumed that the company buys back 27
million shares at €36.76 a share, with a total cost of €1 billion. This is a relatively
large buy-back, but still leaves the company with adequate shareholders funds to
maintain its dividend policy. If you turn to the balance sheet you will see the
impact of the buy-back on the equity of the company and on its retained earnings.
In the profit and loss account, the impact of lower interest receipts fewer shares
and higher earnings per share are all visible.
To construct a TVW model, we need two additions to the methodology used in
the last section. Firstly, we need to deleverage the company’s Beta, so that it can
be releveraged each year to reflect different market gearing. Secondly, we need
to rearrange the valuation model so that it applies each annual discount rate
successively to the stream of cash flow or profits. Let us start with the discount
rate. The deleverage page of the model contains some of the information previously
provided on the discount rate page (we have excluded the debt calculations as they
remain unchanged), but shows the figures used to deleverage Metro’s Beta and to
derive a deleveraged cost of equity. This cost of equity will be releveraged each
year as part of an annual WACC calculation.
On the valuation page, there are two important differences between the
calculations as done here, and as done above. As with the discount rate, some of
the information on the previous calculation has been left out, so that we can
concentrate on the new elements.
First, rather than each item of cash flow or economic profit being discounted
once if it occurs in year one, twice if it occurs in year two, and so on, here we
have to work backwards from the end. So the terminal value is discounted at its
own discount rate. Then, it and the cash flow or economic profit for year five are
both discounted back for one year at the discount rate for year five. In year four,
the start year five value and year four cash flow or economic profit is discounted
at the unique rate for year four, and so on back to year one. The effect of this is
that an item that relates to the terminal value is discounted at six different rates
as it migrates back to start 2004.
This would be a pointless restatement of what happens in a normal model (you
can restate any model to work this way) unless it were coupled with an individual
reworking of the discount rate each year. The insight here, explained in Chapter
two, is that there is only one combination of value for equity, ratio of market
values of debt to equity, and discount rate, that leaves them all compatible with
one another. So each year gets its own discount rate, and changing the level of
projected debt by repurchasing shares alters the rate for that year and for
subsequent years. In terms of the model reproduced above, the net debt number
is that forecast in the company’s projected accounts, but the enterprise value is a
function of the TVW, and the TVW is a function of the enterprise value.
We should note that the leveraging and deleveraging uses the formula that
assumes that the tax shelter is discounted at the unleveraged cost of equity, so that:
B L = B A * (1+D/E)
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