Topics Special III: Equity - Continued
Macroeconomic/Industry Analysis Equity Valuation
Chapters: 12-13 (8th edition of BKM) Solutions to examples [discussed in slides] will be posted on Katalyst 11
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Overview
Lecture Outline:
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Macroeconomic and Industry Analysis
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Fundamental Analysis - Continued
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Equity: Valuation via PriceRatios
P/E Ratio = price paid for a share relative to the annual net income per share
If a company were currently trading at a P/E Ratio of 20, an investor is P/E Ratio Valuation Approach: Use appropriate P/E Ratio to get right price: P = E * appropriate P/E
How do you find the appropriate P/E? And why do the P/E-Ratios differ so much across companies 33 anyway???
Equity: Stock Prices and Investment Opportunities
Consider two firms: IU E(EPS1)1 Discount Rate $5 12.5% Purdue $5 12.5%
IU is inferior to Purdue in the sense you that expect Purdues EPS to grow at a faster rate than IUs.
1 EPS=earnings-per-share
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Equity: Stock Prices and Risk
Consider two firms: IU E(EPS1)1 Discount Rate $5 20.0% Purdue $5 12.5%
You expect IUs and Purdues EPS to grow at the same rate.
Which one do you think has a higher P/E-ratio?
1 EPS=earnings-per-share 55
Equity: Valuation via PriceRatios
So when choosing the appropriate P/E-ratio, make sure its from a company/industry with similar growth opportunities and similar discount rate (i.e., similar level of risk)!
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Equity: Valuation
Note that your estimates are highly sensitive to changes in your inputs! e.g., constant dividend-discount-model with E(D1)=$1
discount rate 5% growth rate 6% 7% 8% $ 33.33 $ 50.00 $ 100.00 9% $ 25.00 $ 33.33 $ 50.00 10% $ 20.00 $ 25.00 $ 33.33 11% $ 16.67 $ 20.00 $ 25.00 12% $ 14.29 $ 16.67 $ 20.00
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