CFA Level I · CFA Level I Exam · Discounted Cash Flow (DCF) and Growth Models
Compared with a firm that holds its debt ratio constant, a firm that raises net borrowing sharply this year will most likely show which effect on its current-year FCFE relative to FCFF?
FCFE is higher in the year of heavy borrowing, because net borrowing is added to the cash flow available to equity holders. Debt flows do not change FCFF, but they enter the FCFE calculation directly.
- AFCFE is lower because interest is deducted from net income
- BFCFE is higher because net borrowing is added to cash available to equityCorrect
- CFCFE is unchanged because debt flows only affect FCFF
Explanation
Net borrowing is a cash inflow to equity holders in the FCFE formula, so heavy borrowing raises current FCFE. Interest is deducted in both approaches but the borrowing inflow dominates in that year. Debt flows affect FCFE directly, not FCFF.
Did you get it right without looking?
One question tells you little. A timed set on Discounted Cash Flow (DCF) and Growth Models shows your real accuracy, how long you take and where you lose marks.
More Discounted Cash Flow (DCF) and Growth Models questions
- A company's last dividend was 3.00 per share. Its dividend growth rate is currently 12% and is expected to decline linearly over eight years…
- An analyst values a mature, profitable utility that pays a stable dividend with a payout ratio of 80% and expects dividends to grow at a con…
- An analyst uses the DuPont decomposition of ROE. Net profit margin is 8%, total asset turnover is 1.25, and financial leverage (assets/equit…
- An analyst values a mature company with the Gordon growth model. Holding all other inputs constant, the analyst's estimate of intrinsic valu…
- An investor plans to hold a share for one year. She expects a dividend of $3.00 at year-end and a selling price of $53.00 at that time. The …
- A company reports a return on equity of 15% and pays out 40% of its earnings as dividends. Assuming the ROE and payout ratio are constant an…