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CA Final · Advanced Financial Management · Business Valuation

Which statement about discounting FCFF and FCFE is correct?

FCFF is discounted at WACC to obtain enterprise value, and debt (net of cash) is then deducted to arrive at equity value. FCFE, being a cash flow to shareholders only, is discounted at the cost of equity.

  1. AFCFF is discounted at cost of equity to get equity value directly
  2. BFCFE is discounted at WACC to get firm value
  3. CFCFF is discounted at WACC and debt is then deducted to get equity valueCorrect
  4. DFCFE is discounted at cost of debt

Explanation

FCFF belongs to all capital providers, so it is discounted at WACC giving enterprise value; subtracting net debt gives equity value. FCFE belongs to shareholders and is discounted at cost of equity.

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