Perpetual Discounted Earning Flow, Perpetual Discounted Free Cash Flow (Perpetual Remaining Life Till Judgement Day = 999999999 Years) Demystified
Assignment :
What is the Perpetual Discounted Earning Flow (Perpetual Remaining Life Till Judgement Day = 999999999 Years)?
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Solution:
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(A)
Perpetual means infinite, ∞.
Growth is abandoned in the Discounted Earning Flow (Perpetual Remaining Life Till Judgement Day = 999999999 Years) formula as it will go Infinity by the infinite period.
The EPS is the final product made by all Metrics, Margins, Profitabilities and Growths put together.
Thus Growth is not required in the Perpetual Discounted Earning Flow (Perpetual Remaining Life Till Judgement Day = 999999999 Years) formula.
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For impartiality, a same Perpetual Remaining Life Till Judgement Day 999999999 Years would be applied to all stocks in all Industries.
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Perpetual Remaining Life Till Judgement Day 999999999 is large enough and selected for calculator entry as calculator does not take ∞.
Perpetual Remaining Life Till Judgement Day
= 999999999 Years
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Perpetual Discounted Earning Flow
(Perpetual Remaining Life Till Judgement Day 999999999 Years)
= EPS ÷ Clean Discount Factor × [1 - (1 ÷ Clean Discount Factor)⁹⁹⁹⁹⁹⁹⁹⁹⁹ ] ÷ [1 - (1 ÷ Clean Discount Factor)]
Or
= EPS ÷ Clean Discount Ratio
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The same goes for :
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Perpetual Discounted Free Cash Flow
(Perpetual Remaining Life Till Judgement Day 999999999 Years)
= FCFps ÷ Clean Discount Factor × [1 - (1 ÷ Clean Discount Factor)⁹⁹⁹⁹⁹⁹⁹⁹⁹ ] ÷ [1 - (1 ÷ Clean Discount Factor)]
Or
= FCFps ÷ Clean Discount Ratio
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Note :
Clean Discount Factor
= 1 + Clean Discount Ratio
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(B)
Second consideration:
Since 30Y US Bond has the highest bond rate which is used to derive the Clean Discount, we could set the Remaing Life as 30 Years.
30-Years Discounted Earning Flow (Remaining Life = 30 Years )
= EPS ÷ Clean Discount Factor × [1 - (1 ÷ Clean Discount Factor)³⁰] ÷ [1 - (1 ÷ Clean Discount Factor)]
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(C)
Some may argue that Remaining Life of all stocks are not equal for they are having different competitive moat advantages.
In that case, the Remaining Life could be set ROIC, for instance, if ROIC are 15% & 25% respectively, their respective Remaining Life would be 15 Years and 25 Years.
ROIC-Years Discounted Earning Flow (Remaining Life = ROIC)
= EPS ÷ Clean Discount Factor × [1 - (1 ÷ Clean Discount Factor)^roic ] ÷ [1 - (1 ÷ Clean Discount Factor)]
.
(D)
Summary :
Discounted {Earning Flow or Free Cash Flow}
(Remaining Life = ROIC, 30 or 999999999 Years)
=
{ EPS or FCFps }
÷
Clean Discount Factor
×
[1 - (1 ÷ Clean Discount Factor)^remaining_life ]
÷
[1 - (1 ÷ Clean Discount Factor)]
.
(E)
In the book THE WARREN BUFFETT WAY THIRD EDITION :
ROBERT G. HAGSTROM has expounded the Intrinsic Value formula used by Warren Buffett which is established using Gordon Growth Model (by setting 0% Growth and Infinite Period) :
Intrinsic Value (Warren Buffett)
= Owner Earning ÷ 30-year U.S. Treasury Bond Yield Ratio
= Owner Earning ÷ 30-year U.S. Treasury Bond Yield Factor × [1 - (1 ÷ 30-year U.S. Treasury Bond Yield Factor^remaining life till judgement day 999999999 years] ÷ [1 - (1 ÷ 30-year U.S. Treasury Bond Yield Factor)]
Where
30-year U.S. Treasury Bond Yield Factor
= 1 + 30-year U.S. Treasury Bond Yield Ratio
.
(F)
Findings of the book THE WARREN BUFFETT WAY THIRD EDITION :
ROBERT G. HAGSTROM opines that the Remaining Life used by Warren Buffett to derive discounted Owner Earning Flow is Infinity with 0% Growth.
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(G)
Reference :
Warren Buffett Explains How To Calculate Intrinsic Value Of A Stock
https://youtu.be/SFyUT_nkLNU?si=XVED0HNZkiKr-RUr
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(H)
Reference :
Clean Discount Factor