Corporate values are driven by financial projections.
Hence the tendency to model cash flows statements, revenues and investments. Though useful for the financial analyst, for the senior banker as well as for the M&A senior partner, such exercice is somehow misleading.
The reason is the uncertainty of it. A consistent business and financial analysis is a prerequisite for mapping cash flow projections. But it is far from enough. You need to make some additionnal homework about how much volatility the cash flow projections are bearing.
The investor profile won’t be the same if the projected cash flow of 100 in the base case of 2020 may be of 200 in the best case and of 0 in the worst cas and if the projected cash flow of 100 is to remain stuck in the range of 90 and 110 depending the scenario. The expected projected value is the same – 100 – but the volalitity of it… far less so !
This only captures part of the truth. Also to be taken into account a modeling mistake, the so called “model risk”. In other words the uncertainty over the uncertainy.
Hard exercise!
Dominique F. Pasquier