Download presentation

1
Chapter 13 Equity Valuation 1

2
**Fundamental Stock Analysis: Models of Equity Valuation**

Basic Types of Models Balance Sheet Models Dividend Discount Models Price/Earning Ratios Estimating Growth Rates and Opportunities 2

3
**Intrinsic Value and Market Price**

Self assigned Value Variety of models are used for estimation Market Price Consensus value of all potential traders Trading Signal IV > MP Buy IV < MP Sell or Short Sell IV = MP Hold or Fairly Priced 3

4
**Dividend Discount Models: General Model**

D å t = V o + ( 1 k ) t t = 1 V0 = Value of Stock Dt = Dividend k = required return

5
No Growth Model D = V o k Stocks that have earnings and dividends that are expected to remain constant Preferred Stock

6
**No Growth Model: Example**

= V o k E1 = D1 = $5.00 k = .15 V0 = $5.00 / .15 = $33.33

7
Exercise in class Suppose stock is expected to pay a $0.50 dividend every quarter and the required return is 10% with quarterly compounding. What is the price? 7

8
**Constant Growth Model + D ( 1 g ) Vo = - k g**

g = constant perpetual growth rate

9
**Constant Growth Model: Example**

+ D ( 1 g ) o Vo = - k g E1 = $5.00 b = 40% k = 15% g = 8% V0 = 3/( ) =

10
Exercise in class Suppose Big D, Inc. just paid a dividend of $.50. It is expected to increase its dividend by 2% per year. If the market requires a return of 15% on assets of this risk, how much should the stock be selling for? 10

11
**Estimating Dividend Growth Rates**

= g ROE b g = growth rate in dividends ROE = Return on Equity for the firm b = plowback or retention percentage rate (1- dividend payout percentage rate)

12
**Shifting Growth Rate Model**

+ t + ( 1 g ) D ( 1 g ) å 1 T 2 = + V D o o + t - + ( 1 k ) ( k g ) ( 1 k ) T 2 t = 1 g1 = first growth rate g2 = second growth rate T = number of periods of growth at g1

13
**Shifting Growth Rate Model: Example**

D0 = $ g1 = 20% for 3years g2 = 5% forever k = 15% T = 3 D1 = 2.40 D2 = D3 = D4 = 3.63 V0 = D1/(1.15) + D2/(1.15)2 + D3/(1.15)3 + D4 / ( ) ( (1.15)3 V0 = = $30.40 13

14
Exercise in class Suppose a firm is expected to increase dividends by 20% in one year and by 15% in the next two years. After that dividends will increase at a rate of 5% per year indefinitely. If the last dividend was $1 and the required return is 20%, what is the price of the stock? 14

15
**Specified Holding Period Model**

+ P V = 1 + 2 . . . + N N + 1 + 2 + ( 1 k ) ( 1 k ) ( 1 k ) N PN = the expected sales price for the stock at time N N = the specified number of years the stock is expected to be held

16
Exercise in class 1. Gagliardi Way Corporation has an expected ROE of 15%. Its dividend growth rate will be __________ if it follows a policy of paying 30% of earning in the form of dividends. A) 4.5% B) 10.5% C) 15.0% D) 30.0% 2. Rose Hill Trading Company is expected to have EPS in the upcoming year of $8.00. The expected ROE is 18.0%. An appropriate required return on the stock is 14%. If the firm has a plowback ratio of 70%, its dividend in the upcoming year should be __________. A) $1.12 B) $1.44 C) $2.40 D) $5.60 3. Rose Hill Trading Company is expected to have EPS in the upcoming year of $6.00. The expected ROE is 18.0%. An appropriate required return on the stock is 14%. If the firm has a plowback ratio of 70%, its intrinsic value should be __________. A) $20.93 B) $69.77 C) $128.57 D) $150.00 Answer: B Difficulty: Medium Answer: C Difficulty: Medium Answer: C Difficulty: Hard 16

17
Exercise in class 4. Cache Creek Manufacturing Company is expected to pay a dividend of $3.36 in the upcoming year. Dividends are expected to grow at 8% per year. The riskfree rate of return is 4% and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the market capitalization rate, and the constant growth DDM to determine the value of the stock. The stock's current price is $ Using the constant growth DDM, the market capitalization rate is __________. A) 9% B) 12% C) 14% D) 18% 5. Caribou Gold Mining Corporation is expected to pay a dividend of $6 in the upcoming year. Dividends are expected to decline at the rate of 3% per year. The risk-free rate of return is 5% and the expected return on the market portfolio is 13%. The stock of Caribou Gold Mining Corporation has a beta of Using the constant growth DDM, the intrinsic value of the stock is __________. A) $50.00 B) $150.00 C) $200.00 D) $400.00 6. Lifecycle Motorcycle Company is expected to pay a dividend in year 1 of $2.00, a dividend in year 2 of $3.00, and a dividend in year 3 of $ After year 3, dividends are expected to grow at the rate of 7% per year. An appropriate required return for the stock is 12%. Using the multistage DDM, the stock should be worth __________ today. A) $63.80 B) $65.13 C) $67.98 D) $85.60 Answer: B Difficulty: Medium Answer: B Difficulty: Hard Answer: C Difficulty: Hard 17

18
**Partitioning Value: Growth and No Growth Components**

1 V + PVGO o = k + D ( 1 g ) E o 1 PVGO = - ( k - g ) k PVGO = Present Value of Growth Opportunities E1 = Earnings Per Share for period 1

19
**Partitioning Value: Example**

ROE = 20% dy = 60% b = 40% E1 = $5.00 D1 = $3.00 k = 15% g = .20 x .40 = .08 or 8% 19

20
**Partitioning Value: Example**

3 V = = $42 . 86 o (. 15 - . 08 ) 5 NGV = = $33 . 33 o . 15 PVGO = $42 . 86 - $33 . 33 = $9 . 52 Vo = value with growth NGVo = no growth component value PVGO = Present Value of Growth Opportunities 20

21
**Price Earnings Ratios P/E Ratios are a function of two factors Uses**

Required Rates of Return (k) Expected growth in Dividends Uses Relative valuation Extensive Use in industry 21

22
**P/E Ratio: No expected growth**

1 = P k P 1 = E k 1 E1 - expected earnings for next year E1 is equal to D1 under no growth k - required rate of return

23
**P/E Ratio with Constant Growth**

D E ( 1 - b ) 1 1 P = = k - g k - ( b ROE ) P 1 - b = E k - ( b ROE ) 1 b = retention ration ROE = Return on Equity

24
**Numerical Example: No Growth**

E0 = $ g = 0 k = 12.5% P0 = D/k = $2.50/.125 = $20.00 PE = 1/k = 1/.125 = 8 24

25
**Numerical Example with Growth**

b = 60% ROE = 15% (1-b) = 40% E1 = $2.50 (1 + (.6)(.15)) = $2.73 D1 = $2.73 (1-.6) = $1.09 k = 12.5% g = 9% PE=? 25

26
Example 223 The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12% and its expected EPS is $5.00. If the firm's plow-back ratio is 40%, its P/E ratio will be __________. A) 8.33 B) 11.54 C) 19.23 D) 50.00 Gagliardi Way Corporation has an expected ROE of 15%. Its dividend growth rate will be __________ if it follows a policy of paying 30% of earning in the form of dividends. A) 4.5% B) 10.5% C) 15.0% D) 30.0% Brevik Builders has an expected ROE of 25%. Its dividend growth rate will be __________ if it follows a policy of paying 30% of earning in the form of dividends. A) 5.0% B) 15.0% C) 17.5% D) 45.0% 26

27
Example 2223 ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. At what price would you expect ART to sell? A) $25.00 B) $34.29 C) $42.86 D) none of the above At what P/E ratio would you expect ART to sell? A) 8.33 B) 11.43 C) 14.29 What is the present value of growth opportunities for ART? A) $8.57 B) $9.29 C) $14.29 What price do you expect ART shares to sell for in 4 years? ? A) $53.96 B) $44.95 C) $41.68 27

28
**Pitfalls in Using PE Ratios**

Flexibility in reporting makes choice of earnings difficult Pro forma earnings may give a better measure of operating earnings Problem of too much flexibility 28

29
**Other Valuation Ratios & Approaches**

Price-to-book Price-to-cash flow Price-to-sales Present Value of Free Cash Flow Residual Income Model 29

Similar presentations

OK

TCCI Barometer March 2013. “Establishing a reliable tool for monitoring the financial, business and social activity in the Prefecture of Thessaloniki”

TCCI Barometer March 2013. “Establishing a reliable tool for monitoring the financial, business and social activity in the Prefecture of Thessaloniki”

© 2018 SlidePlayer.com Inc.

All rights reserved.

Ads by Google

Joints anatomy and physiology ppt on cells Ppt on rulers of uae Ppt on formal education vs self By appt only business cards Ppt on world book day uk Ppt on video conferencing basics Ppt on rain water conservation Ppt on word association test images Ppt on 2 stroke ic engine parts Download ppt on civil disobedience movement in war