The Daily Technical #98: If a company raises $250 million in additional debt, how would its enterprise value change?

Good morning. Welcome to the 98th edition of The Daily Technical. You’re here for one reason so let’s dive in.

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OVERVIEW OF YESTERDAY’S QUESTION
How is the terminal value calculated?

When calculating terminal value, there are two approaches:

1. Growth in Perpetuity Approach (Gordon Growth Method): This method utilizes a perpetual growth rate applied to cash flows beyond the explicit forecast period.

Terminal Value (TV) = FCF t+1 / (r – g)
 
Here, you take the cash flow for the year following the forecast period and divide it by the difference between the discount rate and the growth rate.

2. Exit Multiple Approach: This method involves applying a multiple, typically derived from comparable companies to a financial metric like EBITDA in the final year of your projections. This approach reflects the value of the company in a mature state.

Common Mistakes

1. Selecting an appropriate growth rate. A growth rate that's too high may inflate the terminal value artificially. Stick to a conservative growth rate, often aligned with GDP growth or industry trends.

2. Using cash flows from a prior period. Use FCF t+1, the immediate cash flow after the explicit forecast period. Always project one period forward to calculate with FCF t+1.

3. Determining the appropriate discount rate. The perpetuity formula's 'r' represents the discount rate. Make sure to precisely determine the appropriate discount rate reflecting risk and cost of capital.

4. Using exit multiples without thorough research. Avoid this by basing your multiple on thorough analysis of comparable companies and market conditions.

TL;DR

• Gordon Growth Method: Calculate TV with: TV = FCF t+1 / (r – g).

• Exit Multiple Method: Multiply a final-year financial metric (e.g., EBITDA) by a market-derived multiple from mature comparables.

TODAY’S QUESTION
If a company raises $250 million in additional debt, how would its enterprise value change?

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