1 / 21

Chapter 18

Chapter 18. Equity Valuation Models. 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. Intrinsic Value and Market Price. Intrinsic Value

coby
Download Presentation

Chapter 18

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. Chapter 18 Equity ValuationModels 18-1

  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 18-2

  3. Intrinsic Value and Market Price • Intrinsic Value • 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 18-3

  4. Dividend Discount Models:General Model V0 = Value of Stock Dt = Dividend k = required return 18-4

  5. No Growth Model Stocks that have earnings and dividends that are expected to remain constant Preferred Stock 18-5

  6. No Growth Model: Example E1 = D1 = $5.00 k = .15 V0 = $5.00 / .15 = $33.33 18-6

  7. Constant Growth Model g = constant perpetual growth rate 18-7

  8. Constant Growth Model: Example E1 = $5.00 b = 40% k = 15% (1-b) = 60% D1 = $3.00 g = 8% V0 = 3.00 / (.15 - .08) = $42.86 18-8

  9. Estimating Dividend Growth Rates g = growth rate in dividends ROE = Return on Equity for the firm b = plowback or retention percentage rate (1- dividend payout percentage rate) 18-9

  10. Specified Holding Period Model PN = the expected sales price for the stock at time N N = the specified number of years the stock is expected to be held 18-10

  11. Partitioning Value: Growth and No Growth Components PVGO = Present Value of Growth Opportunities E1 = Earnings Per Share for period 1 18-11

  12. Partitioning Value: Example ROE = 20% d = 60% b = 40% E1 = $5.00 D1 = $3.00 k = 15% g = .20 x .40 = .08 or 8% 18-12

  13. Partitioning Value: Example Vo = value with growth NGVo = no growth component value PVGO = Present Value of Growth Opportunities 18-13

  14. Price Earnings Ratios • P/E Ratios are a function of two factors • Required Rates of Return (k) • Expected growth in Dividends • Uses • Relative valuation • Extensive Use in industry 18-14

  15. P/E Ratio: No Expected Growth • E1 - expected earnings for next year • E1 is equal to D1 under no growth • k - required rate of return 18-15

  16. P/E Ratio with Constant Growth b = retention ratio ROE = Return on Equity 18-16

  17. Numerical Example: No Growth E0 = $2.50 g = 0 k = 12.5% P0 = D/k = $2.50/.125 = $20.00 PE = 1/k = 1/.125 = 8 18-17

  18. 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% P0 = 1.09/(.125-.09) = $31.14 PE = 31.14/2.73 = 11.4 PE = (1 - .60) / (.125 - .09) = 11.4 18-18

  19. Pitfalls in P/E Analysis • Use of accounting earnings • Historical costs • May not reflect economic earnings • Reported earnings fluctuate around the business cycle 18-19

  20. Inflation and Equity Valuation • Inflation has an impact on equity valuations • Historical costs underestimate economic costs • Empirical research shows that inflation has an adverse effect on equity values • Research shows that real rates of return are lower with high rates of inflation 18-20

  21. Potential Causes of Lower Equity Values with Inflation • Shocks cause expectation of lower earnings by market participants • Returns are viewed as being riskier with higher rates of inflation • Real dividends are lower because of taxes 18-21

More Related