Test Review 4

Test Review 4 - Equity Valuation Models Valuation by...

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Equity Valuation Models Valuation by comparables Fundamental analysis- identify stocks that are mis-priced to some measure of true value that can be derived from observable financial data o Law of one price- if two assets are equivalent in all economically relevant respects then they should have the same market price Enforced by arbitrage- simultaneous buying and selling SEC EDGAR- requires all large companies with over 10 mill in assets and over 500 shareholders, excluding foreign companies, to register information Book value - the net worth of a company as reported on the balance sheet o Market price of a stock takes account of the firms value as a going concern Reflects the present value of expected future cash flows Liquidation value- the amount of money that could be realized by breaking up the firm, selling its assets repaying its debt and distributing the remainder to shareholders o If the market price of equity drops below the liquidation value of the firm the firm becomes attractive as a takeover target Replacement cost- the market value of the firm cannot remain too far above this replacement costs because if it did competitors would try to replace the firm o Tobin’s q- ratio of market price to replacement costs, in the end the ratio will tend toward one, evidence this ratio can differ from 1 for a long time Intrinsic value VS market price Intrinsic Value- denoted Vo, the present value of all cash payments to the investor in the stock, including dividends as well as the proceeds from the ultimate sale of the stock, discounted at the appropriate risk adjusted interest rate, k o Whenever the intrinsic value, or the investors own estimate of what the stock is really worth, exceeds the market price the stock is considered undervalued and a good investment o In market equilibrium the current price will reflect the intrinsic value estimates of all market participants Market Capitalization rate- a common term for the market consensus value of the required rate of return, k , Dividend Discount Models Dividend Discount model- the stock price should equal the present value of all expected future dividends into perpetuity Constant growth- Gordon model- dividend times growth / rate minus growth o Implies that a stocks value will be greater: The larger its expected divided per share The lower the market cap rate, k The higher the expected growth rate of dividends Discounted cash flow formula DCF- expected return= dividend yield + capital gains yield Stock prices and investment opportunities Dividend payout ratio- fraction of earnings paid out as dividends Plowback ratio- the fraction of earnings reinvested in the firm o Earnings retention ratio- plowback ratio
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This note was uploaded on 02/27/2008 for the course FNCE 4030 taught by Professor Madigan,ge during the Fall '07 term at Colorado.

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Test Review 4 - Equity Valuation Models Valuation by...

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