Question

How do you estimate firm value when free cash flows of the firm are uneven for the first few years but stay constant thereafter?

Answer 1

In the above case,firm value will be calculated in two stages

In stage 1,we will discount the uneven free cash flows to year 0 at weighted average cost of capital.

In stage 2 which is also called horizon period,cash flows can be same every year till perpetuity or they can grow at constant rate .Present value of these cash flows are calculated at the end of year after which cash flows became constant using below formula

Free cash flows in first year from which cash flow became constant /(WACC-growth rate)

If cash flows are same every year and there is no growth then growth rate will be 0

Now this horizon value i.e,value at the beginning of year from which cash flows became constant are discounted at year 0 using WACC.

Now finally adding the Present value of these two stages ,we will get value of firm