FIN504_PowerPoint_Slides_08

FIN504_PowerPoint_Slides_08 - FIN 504 Financial Management...

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FIN 504: Financial Management Lecture 8: Stock Valuation
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2 FIN 504: Financial Management Stock Valuation Stock Basics Valuing Common Stock Valuing Preferred Stock The ‘Implied’ Required Rate of Return
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Stock Basics
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4 FIN 504: Financial Management Common Equity Dividend (d) Required Rate of Return Ownership Governance Issues Residual Status Absolute Priority Rule
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5 FIN 504: Financial Management Preferred Shares (PS) Features Dividend (d) Two Types of Dividends Required Rate of Return History Uses Technical Features
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6 FIN 504: Financial Management Comparison A COMPARISON OF COMMON EQUITY, PREFERRED SHARES AND DEBT Asset Common Equity Preferred Shares Debt Ownership Yes No No Priority Low Medium High Cash Flow Required No Conditional Yes Maturity No Often Yes Risk High Medium Low
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Valuing Common Stock
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8 FIN 504: Financial Management Valuing Common Stock Methods Discounted Dividend Model (DDM) P/E Ratio Methodologies Other Ratio Methodologies Capital Asset Pricing Model (CAPM) Relative Valuation
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Discounted Dividend Model (DDM)
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10 FIN 504: Financial Management Discounted Dividend Model (DDM) Motivation Dividends are the cash flows derived from common stock. The price is the present value of cash flows. Thus, the price of a common share should be the present value of its dividends Problems Dividends (especially far future ones) are not easily estimated.
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11 FIN 504: Financial Management Discounted Dividend Model (DDM) Three Possible Assumptions about Dividends: They are constant (No-Growth Assumption). They are always changing at a constant rate (Constant Growth Assumption). Neither of the above two conditions applies (Non-Constant Assumption).
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12 FIN 504: Financial Management No-Growth Assumption If a stock is always expected to produce an unchanging dividend, then it is merely a perpetuity. CE CE d V r =
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13 FIN 504: Financial Management No-Growth Assumption If a stock is always expected to pay an annual dividend of $4.00 and r = 7%, then 4.00 $57.14 0.07 CE V = =
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FIN 504: Financial Management Constant Growth Assumption If a stock is always expected to produce an dividend that is changing at a constant rate, then it is merely a growing perpetuity. 1
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FIN504_PowerPoint_Slides_08 - FIN 504 Financial Management...

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