Valuation of Cash Flows with Constant Leverage: Further Insights
It is widely known that if the leverage is constant over time, then the cost of equity and the Weighted Average Cost of Capital (WACC) for the free cash flow, FCF, is constant over time. In other words, it is inappropriate to use a constant WACCFCF to discount the free cash flow (FCF) if the leverage changes over time and some conditions are not satisfied. However, it is common to find analysts who inconsistently use a constant WACCFCF even if the leverage is not constant and the proper conditions are not satisfied. In this teaching note, we use a simple numerical example to illustrate how to modelcash flows that are consistent with constant leverage. We verify the consistency of the example with two basic principles: conservation of cash flows and conservation of values. The note is based on a previous one and includes the procedure to value with constant leverage when some restrictive conditions are not satisfied.
Some Evidence on Financial Distress Costs and Their Effect on Cash Flows
In this work we explore the effect of book value leverage upon some financial indexes, such as real growth, payment terms from suppliers and gross and operating margins. We explore if there is statistical evidence on the influence of the book value leverage level in the financial distress or bankruptcy costs that appear as measured by the worsening of those indexes. Four dependent variableswere explored: gross margin, operating margin, real growth in sales and payment terms from suppliers. In order to estimate the financial distress and bankruptcy costs associated with each dependent variable, logarithmic and semi-logarithmic models were constructed using data panel. We used a balanced sample composed by 644 firms from the commercial Colombian industry, provided by the Superintendence of Societies of Colombia. We also examined an unbalanced sample of 683 firms with Ordinary Least Squares (OLS) analysis. We found that there exists a relationship between book value leverage perceived by the market and gross margin. This allows us to explore the possibility to introduce the financial distress costs in the cash flows. The aim of the study is to explore a model that allows the analyst to include this effect in the forecasted financial statements. When this effect isincluded in the financial statements the free cash flows will be affected and hence the interaction of cash flows, cost of capital (weighted average cost of capital) and firm value calculated with the cash flows will eventually allow determining an optimal capital structure.
Drug Testing in Public Agencies: Are Personnel Directors Doing Things Right?
The results of a survey of 300 public agencies personnel directors are reported. The report describes the drug and alcohol testing policies and procedures now used by these respondents. The implications of the survey results are evaluated in terms of critical issues of personnel management practice and public policy: (1) the protection of employees' constitutional rights, (2) the public's right to an effective public service, and (3) management's need to reduce liability risks and to increase program effectiveness.