Stock Valuation

If the cash flow at the end of 5 years is not expected to grow, i.e., g=0, then the general formula collapses to the PV of a no-growth perpetuity: Terminal Value5 = FCF6 / (k-g) = FCF5 (1+ g)/(k – g) = FCF5 / k

If a stock has a required rate of return rs = 12%, and if its dividend is expected to grow at a constant rate of 5%, this implies that the stock’s dividend yield is also 5%.

What is my company worth? What are the ratios used by analysts to determine whether a stock is undervalued or overvalued? How valid is the discounted present value approach? How can one value a company as a going concern, and how does this change in the context of a potential acquisition, or when the company faces financial stress?

Week 1 – Introduction – Financial Accounting (Review) Week 2 – Financial Markets and Net Present Value Week 3 – Present Value Concepts Week 4 – Bond Valuation and Term Structure Theory Week 5 – Valuation of Stocks Week 6 – Risk and Return – Problem Set #1 Due Week 7* – Midterm (Tuesday*) Week 8 - Portfolio Theory Week 9 – Capital Asset Pricing Model Week 10 – Arbitrage Pricing Theory Week 11 – Operation and Efficiency of Capital Markets Week 12 – Course Review – Problem Set #2 Due

 10. The interest rate used to compute the present value of a future cash flow is called the:

George C. Philippatos and William W. Sihler, 'Models of Dividend Policy', Financial Management (Allyn and Bacon), 228-229

Answer: If the dividends increase at the end of the year, the current share price of common stock will increase. Assuming the same growth Rate of 3% and required rate of return at 10.94%. If required rate of return increase to 11%, the current share price of common stock will decrease.

The terminal growth rate is the average growth rates from 2007 to 2011. Combining with previous cash flows of 5 years, the whole future cash flows are:

Preferred dividends are generally fixed they can be valued as a constant growth rate of zero. You use the zero growth models for the preferred stock and the assumption that the dividends always stay the same and you use the constant growth model for common stock because the dividend grows by a specific percent a year.

For clarification, dividend distribution in addition to their salaries can be taken by owners whenever desired. However, even though loan repayment (if applicable) has been accounted for in the Projected Cash Flow, dividend distribution had not been accounted for in the Projected Cash Flow. Therefore, the ending cash balance for

Dividend rate = 10% = 0.1 Total book value = $1,000,000; No. of preferred share = total book value / par value = 1,000,000/100 = 10,000 Price of preferred share = Dividend / Cost of preferred share = 10*0.1/0.08 = $125 Total market value of preferred share = $125 * number of pref. share = 125* 10000 = 1,250,000

The dividend policy has grown over the years. This may be so that the company projects itself as a less risky share and thus also gaining investors faith. The investors buy its shares and thus increase its demand. This helps to gives positive signals to the investors signalling that the company is stable and can generate earnings steadily. This hypothesis is gains standing from the dividend hypothesis theory.

In general the three-stage approach allows us to add complexity to the standard dividend discount models by enabling changing growth scenarios throughout the forecasting period: an initial period of higher than normal growth, a transition/consolidation period of declining growth and final a period of stable growth. The main assumptions are that the company on which we conduct the calculation study currently is in extraordinary strong growth phase. The time period with the extraordinary strong growth must be strictly defined and eventually be replaced with the declining growth assumption. Lastly, Capital Expenditures and Depreciation are expected to grow at the same rate as revenues. .

I. Introduction of company valuation methods and process........................................................3 1. Abstract................................................................................................................................3 2. Valuation methods...............................................................................................................3 2.1 Balance sheets – Based methods

The first objection is related to the fact that this is a totally new approach concerning dividend policy, and nobody can predict what is going to happen. We consider that this may have positive effects on share prices, especially taking in consideration that it will stabilise the market price of the company.