Calculating Free Cash Flow to the Firm: Method #2: Cash Flow From Operations
February 12, 2025
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In corporate finance we studied that companies had an option when it came to compensating their equity shareholders. They could both pay these shareholders cash dividends from the earnings of the current year or alternatively they could conduct a share repurchase program and buy back some shares from the same proceeds. The monetary effect would be the exact same. Differences, if any would arise because of the taxation policy of the particular country.
However, when it comes to valuation, there is a huge difference between cash dividends and share repurchase programs. However, some organizations prefer to conduct share repurchases. Hence, as an analyst it is important to understand how share repurchase affects the value of a company.
This article explains the same in great detail:
Therefore, share repurchase programs are not as reliable or as consistent as dividend payout programs. However, companies may indulge in these transactions and valuations have to be conducted.
When dealing with share repurchase, the analyst may have to go beyond per share data. This is because the number of shares outstanding keeps on changing and hence per share data from last year may not be comparable to this year’s numbers. Here are the steps commonly followed while valuing share repurchases:
To sum it up, the procedure largely depends on forecasting what the share price will be in the future. In the near future, an educated guess is still possible. However, predicting the stock price 5 or 10 years hence is sheer speculation and it is for this reason that analysts face problems arriving at a valuation for companies which use share repurchase as a tool to reward equity shareholders
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