Valuing Equity1 - Asset Valuation Equity Readings Text Ch...

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Asset Valuation: Equity Readings: Text Ch. 10
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Valuing Equity: Complications Difficulties in valuing equity/common stock: 1. Residual claimant on firm value. 2. Each firm is unique. 3. Usually only one class of common per firm. Assumptions for the moment We can estimate expected cashflows. We have a methodology for estimating a risk-adjusted discount rate.
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Dividend Discount Model Starting Point: Investors in common stock anticipate a dividend (D 1 ) and capital appreciation (P 1 -P 0 ). Today’s price (P 0 ) will be set in equilibrium such that these anticipated cash flows generate a “fair” rate of return (k s ).
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Dividend Discount Model What will determine the price P 1 that the next investor will be willing to pay for the stock? P 0 D 1 , P 1 D 2 , P 2 D 3 , P 3
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Zero Growth Dividend Discount Model Assume that dividends are constant at D:
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Zero Growth Dividend Discount Model You expect that DynaMitral Inc. (A heart valve Company) to give constant dividend of $5 forever. Risk adjusted discount rate is 12%. How much do you expect to buy a share of DynaMitral Inc. ?
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Constant Growth Dividend Discount Model Assume that dividends actually grow at a constant rate g: (Growing perpetuity)
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Constant Growth Dividend Discount Model Open 80.85 Market Cap 443.98 B
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