A Comparables Approach to Measuring Cashflow-at-Risk for Non-Financial Firms
National Economic Research Associates Working Paper No. 39
27 Pages Posted: 23 Sep 2000
Date Written: August 2000
In this paper, we present the results of our efforts to develop an estimate of cashflow-at-risk--which we label C-FaR--for non-fiancial firms. C-FaR measures the risk of unforeseen shortfall in a company's operating cashflows over some horizon in the future, conditional on information available today; e.g., one can speak of quarter-ahead C-FaR, or year-ahead C-FaR. In contrast to the "bottom-up" approach used by financial institutions to estimate Value-at-Risk (VaR), our method approaches things from the "top down", looking directly at the ultimate item of interest, overall company cashflows. In order to have enough data to make meaningful statements for any given target company, we use a sophisticated benchmarking technique to identify its closest comparables. In particular, we search for the other companies in the Compustat universe that most closely resemble our target company on four dimensions: 1) market cap; 2) profitability; 3) industry risk; and 4) stock-price volatility. This comparables methodology allows us to estimate C-FaR probability distributions for any company using relatively large numbers of observations on cashflow shocks. Our results indicate substantial differences in cashflow riskiness for companies with different characteristics.
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