- CFA Exams
- CFA Level I Exam
- Topic 5. Equity Valuation
- Learning Module 22. Free Cash Flow Valuation
- Subject 1. FCFF and FCFE valuation approaches
CFA Practice Question
Select the false statement(s).
II. FCFE is a more comprehensive model than DDM as it provides a better estimate of value.
III. DDMs consider expected dividends as cash flow to shareholders while FCFE models consider available cash flows for dividend distribution as cash flows to shareholders.
IV. FCFE should be used only when a company does not pay dividends or its dividends differ significantly from its underlying earnings. Otherwise a DDM should be used.
I. FCFE models are useful to value control ownership since dividends can be changed substantially by the investor.
II. FCFE is a more comprehensive model than DDM as it provides a better estimate of value.
III. DDMs consider expected dividends as cash flow to shareholders while FCFE models consider available cash flows for dividend distribution as cash flows to shareholders.
IV. FCFE should be used only when a company does not pay dividends or its dividends differ significantly from its underlying earnings. Otherwise a DDM should be used.
Correct Answer: IV
Even if a company pays dividends that tie to its performance, FCFE is still a preferred method.
User Contributed Comments 2
| User | Comment |
|---|---|
| alejandroc | I disagree with 2. Why is DDM a less comprehensive measure? Both are valid, depending on the control or non-control perspective. |
| akirchner1 | The DDM model uses a strict definition of cash flow to equity, that is, the dividends of a company. The FCFE model recognizes a company's investments and financing policies in addition to its dividend policies. |