The CFO's role in present value and cash flow analysis

CFO & PV

Finance departments are good places to train future CEOs, for several reasons. They have a strong bottom line focus and understand the financial implications of strategy. They are also in the best position to evaluate the implications of mergers and joint ventures, which have become a major part of the operating environment for most companies. There are downsides, however, to hiring CFOs as CEOs. In some industries, finance is not a key component of success. Also, because CFOs typically rise through a strictly financial track, they may not have the type of broad-based skill set needed to succeed as Chief Executive. They may also lack the leadership skills required of a CEO.

One of the most important roles of a corporation is to enhance shareholder value. Each point of strategy impacts value, and the CFO is in the best position to understand these impacts. The nature of the CFO role is to understand the cost and revenue anatomy of the organization, which puts them in a unique position to maximize shareholder value. Often the form of financing that is undertaken is key to a strategy's ultimate profitability, and CEOs from other disciplines are seldom in a position to understand the finer details that make or break the finances of a given strategy. This makes the CFO's skill set invaluable in determining the impact of strategy on share price.

With the increasing freedom of capital flows and globalization of markets, mergers and joint ventures have become commonplace. It is imperative not only to understand how these transactions affect the strategic direction and market share of the company, but it is critical to be able to trace capital flows to have a realistic sense of how the transaction will affect the company.

Increasingly, the finance function has moved from the periphery to a role as a core function. Sarbanes-Oxley and the scandals that preceded it have driven home the notion that accounting and compliance are critical components of a modern company. Having a financial professional at the helm reduces the risk of non-compliance and financial scandal that can drive down shareholder value or even wipe out the entire company.

That said, in some industries the financial function is not a key driver of success. While financial acumen may be a source of profits, it is seldom a firm's source of competitive advantage. Many firms prefer a CEO to come from a background that reflects the firm's greatest strengths, be they in brand development or in technological leadership. The CFO may be able to apply strategy to the bottom line, but is often not in a position to drive other key success factors.

One of the weaknesses CFOs are felt to have is a lack of a rounded background. Most CFOs rise on strictly a financial track, and fail to develop the broad-based knowledge that is demanded of leaders today. A CEO from another discipline can learn the basics of finance, but a financial professional is unlikely to learn the intricacies of technological development. This narrow focus makes the leap from CFO to CEO a difficult one in many industries. If a CFO, however, can develop some other skills and cultivate a broader knowledge base, they can overcome this.

Another drawback is often leadership skills. CFOs are promoted in many cases on their technical skills with finance and accounting. The focus of their careers is on compliance and enhancing shareholder value. These tasks are not necessarily conducive to developing strong leadership skills. Moreover, many firms do not groom their CFOs to one day take the top position, wary of just such limitations.

In many industries, CFOs are not suited to the CEO role, because their skills do not reflect the key competitive advantages of the firm. However, in many cases the CFO is in the best position to drive shareholder value, and their skills in evaluating and structuring mergers and acquisitions can prove invaluable.

2) 1. The present value of 5700 one year from now at 3.6% interest is $5,501.93. The present value of 8900 two years from now at 3.6% interest is $8,294.14. The combined present value of these two accounts is $13.796.07.

2. At a 5% discount rate, the NPVs of the cash flows are: Year 1 $43.809m; Year 2 $67.120m; Year 3 $57.877m for a total of $168.806m. At a 12% discount rate the NPVs of these flows are: Year 1 $41.071m; Year 2 $58.992 m; Year 3 $47.689 m for a total of $147.753m.

At a discount rate of 10% the NPVs of the cash flows are: Year 1 $41.818M; Year 2 $61.157m; Year 3 $50.338m for a total of $153.313m. At a discount rate of 8% the NPVs of the cash flows are: Year 1 $42.592m; Year 2 $63.443m; Year 3 $53.186m for a total of $159.222m. At a discount rate of 6% the NPVs of the cash flows are: Year 1 $43.396m; Year 2 $65.859m; Year 3 $56.254m for a total of $165.510.

At a discount rate of 4% the NPVs of the cash flows are: Year 1 $44.230m; Year 2 $68.417m; Year 3 $59.562m for a total of $172.10m.

With each change in the discount rate from 10% down to 2%, the value of the flows is greater. The time value of the money increases as the discount rate decreases, as less money is theoretically lost due to inflation or interest. Therefore, as the value of the flows increases, the value of the mine today also increases, such that the flows at a 2% discount rate are as follows: Year 1 $45.098m; Year 2 $71.126m; Year 3 $63.135m for a total NPV of the mine of $179.360m.