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VALUATION

VALUATION. Five Categories of Valuation Methods. Discounted cash-flow Market-based Mixed models Asset-based methods Option-based methods. Discounted Cash-Flow Approach. Estimated future cash flows are discounted back to present value based on the investor’s required rate of return

yvonne-lott
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VALUATION

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  1. VALUATION

  2. Five Categories of Valuation Methods • Discounted cash-flow • Market-based • Mixed models • Asset-based methods • Option-based methods

  3. Discounted Cash-Flow Approach • Estimated future cash flows are discounted back to present value based on the investor’s required rate of return • Discounted dividend valuation • Discounted operating cash-flow models

  4. Discounted Dividend Valuation • Most straightforward approach • Explicit cash flows received by equity investors • Dividends • Terminal value when shares are sold • Firm is expected to have an infinite life

  5. Discounted Dividend ValuationTheoretical Model • No-growth, constant dividend • Dividends are growing at rate g

  6. Discounted Dividend ValuationRequired rate of return (r) • r is the rate of return demanded on a specific investment • Based on investor’s assessment of risk • CAPM

  7. Discounted Operating Cash-Flow Models • Most applicable in the event of a takeover • Free cash flow (FCF) is operating cash flows less necessary investments in working capital and property, plant and equipment

  8. FCFF or FCFE

  9. Discount Rate • FCFF • Weighted Average Cost of Capital • FCFE • Cost of Equity (required rate of return)

  10. Market-based Models • Compare subject company to other similar companies for which market prices are available • Simple computations but require a great deal of professional judgment • P/E Model • P/B Method • P/S Model

  11. P/E Model • Assumes a company is worth a certain multiple of its current earnings • Assumes each share is worth the same multiple of EPS • Requires judgment regarding • Peer firms and their prices • Historical (average) data

  12. P/E Model - Example • Consensus analyst forecast EPS = $0.46 • P/E of 23 is appropriate • Value = 23*$0.46 = $10.58 • If the current price is $10.22, there is limited upside to this investment

  13. Asset-Based Models • Used when a company is going to be liquidated • Valuation is based on underlying assets • Market value of balance sheet items • Assets and liabilities • Also called cost or adjusted book value approach

  14. Options-Based Models • Theoretically elegant but practical application is difficult • Analyst must have information about opportunities (and their value) available to a firm • Equity ownership is viewed as an option call on the firm • Limited downside, unlimited upside

  15. Selecting a Model • Consider characteristics of the firm • Dividend paying • Growing • Likely to be liquidated • Consider data availability of data • Publicly available or closely held

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