SSRN Author: Ignacio Velez-ParejaIgnacio Velez-Pareja SSRN Content
https://www.ssrn.com/author=145648
https://www.ssrn.com/rss/en-usFri, 16 Aug 2019 01:09:48 GMTeditor@ssrn.com (Editor)Fri, 16 Aug 2019 01:09:48 GMTwebmaster@ssrn.com (WebMaster)SSRN RSS Generator 1.0REVISION: EVA Performance Measurement is Faulty: So You May Be Persuaded to Switch to a Robust OEVA-TEVA AlternativeWe argue that the Economic Value Added (EVA) is biased by design and will generally yield distorted assessment of both the operating and overall performance. Fundamentally, the scale of measurement bias depends on the interest tax shield actually obtained in a measurement period and on a book to value ratio, however, there are also other potentially significant sources of distortions induced by the metric design. A robust alternative we propose is a concurrent evaluation of operating and total performance with the two nested metrics, Operating EVA (OEVA) and Total EVA (TEVA). OEVA applies the risk of assets (rather than WACC) to calculates the full capital charge and is unaffected by financing activities. TEVA incorporates financing side effects by explicitly adding interest tax shields to OEVA, but can be calculated as simply as a sum of interest expenses and net income less the full capital charge. The OEVA-TEVA approach is computationally simpler than EVA, the corresponding ...
https://www.ssrn.com/abstract=2219247
https://www.ssrn.com/1815513.htmlThu, 15 Aug 2019 08:02:23 GMTNew: Toward Better Measurement of Financial Performance: A Robust OEVA-TEVA Alternative to Biased EVAWe demonstrate analytically and illustrate with examples that the conventional measures of the residual operating income such as the Economic Value Added (EVA) are biased by design and so may yield a misleading assessment of financial performance. Fundamentally, the magnitude of the measurement error depends on the amount of realized interest tax shields and the book to value ratio. Other potentially significant sources of distortions induced by the EVA design are identified as well. We propose a robust alternative that is a concurrent evaluation of the firm’s operating and total performance by means of two related metrics, the Operating EVA (OEVA) and the Total EVA (TEVA). Coherent implementation of the OEVA–TEVA technique is simpler than the EVA both analytically and computationally. It is also able to provide additional information for the management decision making. The overall consistency of the OEVA–TEVA approach is supported by a formally proved equivalence of the ...
https://www.ssrn.com/abstract=3433067
https://www.ssrn.com/1814075.htmlFri, 09 Aug 2019 10:13:11 GMTNew: Two Fundamental Principles for Cash Flow Valuation (CFV)In this note, we discuss two fundamental principles for Cash Flow Valuation (CFV). We hope that adherence to these two principles will improve the practice of CFV. These principles are general, relatively uncontroversial, and should be acceptable as starting points for cash flow valuation. Principle One is on the conservation of cash flows. Principle Two is on the conservation of the (present) values that correspond to the cash flows in Principle One. We illustrate the application of these two principles with a simple numerical example.
https://www.ssrn.com/abstract=3384058
https://www.ssrn.com/1792249.htmlThu, 30 May 2019 13:33:34 GMTNew: the Weirdness and Absurdity of a Specific theory on the Present Value of the Tax Benefits (PVTB) from Debt FinancingIn this note, we comment on and discuss the weirdness and absurdity of the idea that Professor Fernandez has argued for. The weirdness or absurdity of a theory does not automatically disqualify a theory; however, perhaps another review of the implications of the theory may have some merit. It seems that the definition of the present value of the tax benefits (PVTB) was revised to accommodate pre-existing ideas; perhaps the new theory is masquerading as a sort of reverse engineering.
https://www.ssrn.com/abstract=3372093
https://www.ssrn.com/1785173.htmlMon, 06 May 2019 11:06:50 GMTNew: Matching Methods in Valuation with Finite Cash Flows: An Annotated AppendixThis is an annotated appendix that accompanies the paper. In this note, we provide detailed commentary on a numerical example that illustrates the ideas that we discuss in the main paper. The numerical example is in Table18.10, Chapter 8, page 656, of the third edition of Corporate Finance, 2014, by Berk & DeMarzo. <br><br>Upon request, the authors would be delighted to share the EXCEL file. We welcome correspondence to exchange ideas. <br>
https://www.ssrn.com/abstract=3369307
https://www.ssrn.com/1785171.htmlMon, 06 May 2019 11:04:34 GMTNew: Financial Modeling & Valuation: An Applied Integrated Framework for PractitionersThis is a draft of Chapter 1 for an upcoming book on Financial Modeling & Valuation. Informally, the chapter introduces the basic concepts in cash flow valuation. It reviews the different types of finite cash flows and discusses the cost of capital with and without taxes in a world with perfect capital markets. We present the Free Cash Flow (FCF) and the Capital Cash Flow (CCF). This chapter is the foundational background for understanding the subsequent chapters. <br>
https://www.ssrn.com/abstract=3364381
https://www.ssrn.com/1785168.htmlMon, 06 May 2019 10:58:19 GMTNew: Matching Methods in Valuation with Finite Cash Flows: An Almost Perfect Textbook ExampleIn this note, we extend a numerical example in the textbook by Berk & DeMarzo that matches methods for only when K<sub>TS</sub> is equal to K<sub>D</sub>. We show that there is a generalized formulation for the return to levered equity K<sub>E</sub> that works for any value of K<sub>TS</sub>, the appropriate discount rate for the tax shield. We debunk the view that the CFE (Cash Flow to Equity) method is “apparently simple but practically confusing and useless.” Due diligence in professional valuation demands that we practice triangulation as Standard Operating Procedure (SOP). This formula is irrelevant for anyone who believes in the Pablo Fernandez (PF) approach to valuation because the concept of a “discount rate for the tax shield” is obviously nonsensical and almost surely absurd. <br>
https://www.ssrn.com/abstract=3367928
https://www.ssrn.com/1784715.htmlFri, 03 May 2019 07:59:55 GMTNew: Principles of Cash Flow ValuationPrinciples of Cash Flow Valuation, published by Academic Press, Elsevier, in 2004, is the only book available that focuses exclusively on cash flow valuation, with a special emphasis on the Capital Cash Flow (CCF) approach.<br><br>This text provides a comprehensive and practical, market-based framework for the valuation of finite cash flows derived from a set of integrated financial statements, namely, the income statement, balance sheet, and cash budget. The authors have distilled the essence of years of gathering academic wisdom in the study of cash flow analysis and the cost of capital. Their work should go a long way toward bridging the gap between the application of cost benefit analysis and the theory of capital budgeting.<br><br>This book covers the basic concepts in market-based cash flow valuation. Topics include the tme value of money (TVM) and an introduction to cost of capital; basic review of financial statements and accounting concepts; construction of integrated ...
https://www.ssrn.com/abstract=3364002
https://www.ssrn.com/1781738.htmlMon, 22 Apr 2019 12:30:48 GMTREVISION: An Embarrassment of Riches: Winning Ways to Value with the WACCThere are many different ways to calculate the Weighted Average Cost of Capital (WACC) and for the beginner the plethora of possibilities may be very confusing. We present a general framework for classifying the WACCs that are applied to the FCF and the CCF. For the moment, we avoid complexities. To facilitate the discussion, we classify the menagerie of WACCs along three dimensions. We hope that the structured framework assists the reader in making the correct decision with respect to the calculation of the cost of capital in practice. First, we present a qualitative discussion on the dimensions of the framework. Second, we specify the appropriate formulas and calculations for the cells in the framework.<br><br>At the outset, it is important to stress that this paper is concerned only with finite cash flows. In our judgment, it is best to discuss expressions for the cost of capital that are relevant to finite cash flows and this needs no further justification. In valuation, the ...
https://www.ssrn.com/abstract=352180
https://www.ssrn.com/1777326.htmlSat, 06 Apr 2019 09:35:46 GMTREVISION: Top 9 (Unnecessary and Avoidable) Mistakes in Cash Flow ValuationIn cash flow valuation (CFV), there are two main categories of mistakes: derivation of the appropriate cash flows and estimation of the cost of capital. A simple-minded view of the world would suggest that with near perfect capital markets, the presence of arbitrage would severely punish wrong valuations and eradicate such mistakes in the derivations of cash flows and estimations of the cost of capital. Nonetheless, to the dismay of academics, such mistakes continue to exist and thrive. It is not clear why such mistakes persist in practice.<br><br>In this paper we present our list of the top nine mistakes in cash flow valuation. In the age of the computer these mistakes are both unnecessary and avoidable. In the usual triumph of hope over experience, we are attempting to persuade analysts that they would benefit from paying attention to these mistakes. Ultimately, the (un)importance of the mistakes is an empirical question and depends on the considered judgment of practitioners.
https://www.ssrn.com/abstract=496083
https://www.ssrn.com/1776021.htmlMon, 01 Apr 2019 21:55:16 GMTREVISION: Computer, Computer, on the Wall, Which Cost of Capital is Fairest, of Them All?For the practitioner, making sense of the bewildering number of theories on the cost of capital must be a truly challenging and daunting task. In a perfect world without taxes, the cost of capital formula for a finite stream of free cash flows, with debt and equity financing, is elegant, simple and eminently sensible. The cost of capital is a weighted average of the cost of debt and the cost of equity, where the weights are the market values of debt and equity as percentages of the levered market value. In a perfect world with taxes, complications abound. <br><br>What criteria should we use to select the best expression for the cost of capital from all the available formulations? Fundamentally, the cost of capital is a question about how to properly account for the tax benefits (if any) from the interest deduction with debt financing. In other words, what are the appropriate risk-adjusted discount rates for the tax shield? At last count, there were 23 theories!<br><br>In this note, ...
https://www.ssrn.com/abstract=304404
https://www.ssrn.com/1775435.htmlSat, 30 Mar 2019 23:23:30 GMTREVISION: For Finite Cash Flows, What is the Correct Formula for the Return to Levered Equity?For cash flows in perpetuity without growth, analysts typically use the following formula for the return to levered equity Ke.<br><br>Ke = Ku + (Ku Kd)(1 T)D/E (1) <br><br>where Ku is the return to unlevered equity, Kd is the cost of debt, T is the tax rate, D is the market value of debt and E is the market value of equity.<br><br>What is the corresponding formula for finite cash flows? Is it the same as equation 1? In other words, is equation 1 appropriate for both finite and infinite cash flows? One may be tempted to believe that equation 1 is the general formulation for the return to levered equity and applies to both cash flows in perpetuity and finite cash flows. However, this conclusion is misleading.<br><br>In this short note, using simple algebra, we derive the general formulation for the return to levered equity for finite cash flows, and show that equation 1 is not the general formulation for finite cash flows.
https://www.ssrn.com/abstract=545122
https://www.ssrn.com/1775432.htmlSat, 30 Mar 2019 23:21:17 GMTNew: A Defense of the Classic FCF WACC: A Rejoinder to the RetrospectionIn this rejoinder, we note that the complaint against the classic FCF WACC is misplaced because it incorrectly identifies the real source of the problem. The fault for the discrepancies, dear colleagues, lies not in the classic formulation of the FCF WACC. The real reason for the discrepancies is more technical, subtle and nuanced. In the valuation of cash flows, the discrepancies in the results from the three methods are due to the inconsistency between the specification of the discount rate for the tax shield KTS and the corresponding expression for the return to levered equity KE. The results from all the methods will always match if the analyst uses the correct expression for KE that corresponds to the value of KTS.<br><br><br>Cautionary note: This rejoinder draws on and summarizes ideas that were discussed in regular, polite (?) emails between the authors; however key differences remain and need to be resolved. For the moment, this rejoinder represents the best ...
https://www.ssrn.com/abstract=3354992
https://www.ssrn.com/1774684.htmlThu, 28 Mar 2019 11:34:50 GMT