Ch13_Kim_BKM_INV_7th - Bodie Kane Marcus Essentials of...

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Essentials of Investments Bodie • Kane • Marcus Chapter 13 Equity Valuation
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Essentials of Investments Bodie • Kane • Marcus Balance Sheet Valuation Methods Book Value: A common valuation measure. Net worth of common equity according to a firm’s B/S. Usually book value is different from the market price of stock: Book value – Accounting measure, while Market price – Economic measure (Market consensus estimate). Book value cannot be always be a floor for stock’s price. Liquidation Value: A better measure for a floor for the stock price. Net amount that can be realized by selling the assets of a firm and paying off the debt. If market price of stock drops below this value, the firm becomes attractive as a takeover target.
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Essentials of Investments Bodie • Kane • Marcus Balance Sheet Valuation Methods Replacement Cost of its assets less its liabilities. The market value of the firm cannot get too far above its replacement cost because competitors would try to replicate the firm by entering the same industry. Tobin’s q: Ratio of market price to replacement cost. In the long-run, according to above view, the ratio will tend toward 1. Evidence shows that the ratio can differ significantly from 1 for very long periods of time. Focusing on B/S can give some useful information about firm’s value, the analysts must turn to the expected future CFs for a better estimate of the firm’s value as a going concern.
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Essentials of Investments Bodie • Kane • Marcus Intrinsic Value and Market Price Comparison between expected and required rate of returns for the evaluation of stock. – Expected return = E(r) = {E(D 1 ) + [E(P 1 ) – P 0 ]}/P 0 – Required rate of return = k = r f + β [E(r M ) – r f ] Trading signal E(r) k – Buy (undervalued) E(r) < k – Sell (overvalued) E(r) = k – Hold (fairly valued) Comparison between intrinsic value and market price for the evaluation of stock. Intrinsic value = PV of a firm’s expected future net CFs discounted by the required rate of return • V0 = [E(D 1 ) + E(P 1 )] / (1 + k) Investor’s own estimate on the stock value.
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of Investments Bodie • Kane • Marcus Intrinsic Value and Market Price Comparison between intrinsic value and market price for the evaluation of stock. Market Price = Market consensus value for a stock of all potential traders. The same for all investors; It is given. Trading Signal Intrinsic value Market price – Buy (undervalued) Intrinsic value < Market price – Sell (overvalued) Intrinsic value = Market price – Hold (fairly valued) In market equilibrium, current market price will reflect the intrinsic value estimates of all market participants. A common term for the market consensus value of
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Ch13_Kim_BKM_INV_7th - Bodie Kane Marcus Essentials of...

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