Industry Name, Number of Firms, ROC, Reinvestment Rate, Expected Growth in EBIT. Advertising, 47, 63.51%, 65.38%, 41.53%. Aerospace/Defense, 77, 33.93 In a free cash flow to equity model, where we are focusing on net income growth, the expected growth rate is a function of the equity reinvestment rate and the Reinvestment Rate = Expected Growth rate/ Return on Capital. Thus, a firm with a return on capital of of growth investors. Aswath Damodaran at 12:54 PM If we define the portion of the net income that equity investors reinvest back into the firm as the equity reinvestment rate, we can state the FCFE as a function of
Damodaran 7 Dealing with Negative Earnings When the earnings in the starting period are negative, the growth rate cannot be estimated. (0.30/-0.05 = -600%) There are three solutions: • Use the higher of the two numbers as the denominator (0.30/0.25 = 120%) • Use the absolute value of earnings in the starting period as the denominator Industry Name: Number of Firms: ROC: Reinvestment Rate: Expected Growth in EBIT: Advertising: 47: 63.51%: 65.38%: 41.53%: Aerospace/Defense: 77: 33.93%: 104.37%: 35 Aswath Damodaran 19 Expected ROE changes and Growth n Assume now that ABN Amro’s ROE next year is expected to increase to 17%, while its retention ratio remains at 53.88%. What is the new expected long term growth rate in earnings per share? n Will the expected growth rate in earnings per share next year be Firm Reinvestment Rate = (Capital Expenditure – Depreciation + Δ Working Capital) / NOPLAT. The most common method for estimating a firm’s equity reinvestment rate is the retention ratio (=retained earnings / net income). The limitation of this approach is that it assumes a firm reinvests everything that it retains.
Aswath Damodaran 19 Expected ROE changes and Growth n Assume now that ABN Amro’s ROE next year is expected to increase to 17%, while its retention ratio remains at 53.88%. What is the new expected long term growth rate in earnings per share? n Will the expected growth rate in earnings per share next year be Firm Reinvestment Rate = (Capital Expenditure – Depreciation + Δ Working Capital) / NOPLAT. The most common method for estimating a firm’s equity reinvestment rate is the retention ratio (=retained earnings / net income). The limitation of this approach is that it assumes a firm reinvests everything that it retains. ¨ The reinvestment needs and dividend payout ratios should reflect the lower growth and excess returns: ¤ Stable period payout ratio = 1 - g/ ROE ¤ Stable period reinvestment rate = g/ ROC Aswath Damodaran 203 In reality, reinvestment has a lagged effect on growth. If you reinvest 20% in year 1, you drive growth in year 2. Thus, I have an upfront reinvestment in time 0 to get growth in year 1 and my reinvestment in my final year of high growth is based upon my stable growth rate. June 4, 2012 at 5:44 PM The reinvestment rate is the amount of interest that can be earned when money is taken out of one fixed-income investment and put into another. For example, if a company has $100,000 in net income and $50,000 in capital expenditures, the reinvestment rate is equal to $50,000/$100,000 = 50%. Stated another way, 50% of the income that the company generates must be redeployed into the business to fund operations.
Techniques for Determining the Value of Any Asset,. Aswath Damodaran provides the following formula to estimate the reinvestment rate as it relates to EBIT. Jul 28, 2019 Cornell and Damodaran suggest that Tesla's stock was significantly assume that Amazon's terminal year reinvestment rate will be less than Copeland et al., 2010; Damodaran, 2010) formulated a set of restrictive As a result, the investment outlays, the reinvestment rate and the ratio of capital Oct 28, 2019 The reinvestment rate is defined as Stable Growth Rate / Return on Capital in the stable phase. Damodaran's (2010) approach of introducing
Firm Reinvestment Rate = (Capital Expenditure – Depreciation + Δ Working Capital) / NOPLAT. The most common method for estimating a firm’s equity reinvestment rate is the retention ratio (=retained earnings / net income). The limitation of this approach is that it assumes a firm reinvests everything that it retains. ¨ The reinvestment needs and dividend payout ratios should reflect the lower growth and excess returns: ¤ Stable period payout ratio = 1 - g/ ROE ¤ Stable period reinvestment rate = g/ ROC Aswath Damodaran 203 In reality, reinvestment has a lagged effect on growth. If you reinvest 20% in year 1, you drive growth in year 2. Thus, I have an upfront reinvestment in time 0 to get growth in year 1 and my reinvestment in my final year of high growth is based upon my stable growth rate. June 4, 2012 at 5:44 PM The reinvestment rate is the amount of interest that can be earned when money is taken out of one fixed-income investment and put into another. For example, if a company has $100,000 in net income and $50,000 in capital expenditures, the reinvestment rate is equal to $50,000/$100,000 = 50%. Stated another way, 50% of the income that the company generates must be redeployed into the business to fund operations. The IRR has a reinvestment rate assumption that assumes that the company will reinvest cash inflows at the IRR's rate of return for the lifetime of the project. If this reinvestment rate is too high to be feasible, then the IRR of the project will fall. If the reinvestment rate is higher than the IRR's rate of return, then the IRR of the project is feasible. ¨ The reinvestment needs and dividend payout ratios should reflect the lower growth and excess returns: ¤Stable period payout ratio = 1 -g/ ROE ¤Stable period reinvestment rate = g/ ROC Aswath Damodaran 204