a.
Predictors: Expected Growth in EPS: next 5 y, PAYOUT1,
Beta
b.
Coefficients
a,b,c
4.389
.609
.188
7.212
.000
13.299
.962
.189
13.823
.000
1.014
.039
.608
25.786
.000
Beta
PAYOUT1
Expected Growth
in EPS: next 5 y
Model
1
B
Std. Error
Unstandardized
Coefficients
Beta
Standar
dized
Coefficients
t
Sig.
Dependent Variable: Current PE
a.
Linear Regression through the Origin
b.
Weighted Least Squares Regression - Weighted by Market Cap
c.

Aswath Damodaran
46
Problems with the regression methodology
n
The basic regression assumes a linear relationship between PE ratios
and the financial proxies, and that might not be appropriate.
n
The basic relationship between PE ratios and financial variables itself
might not be stable, and if it shifts from year to year, the predictions
from the model may not be reliable.
n
The independent variables are correlated with each other. For example,
high growth firms tend to have high risk. This multi-collinearity makes
the coefficients of the regressions unreliable and may explain the large
changes in these coefficients from period to period.

Aswath Damodaran
47
The Multicollinearity Problem
Correlations
1.000
.342**
.130**
.009
.
.000
.000
.594
3303
2085
3027
3290
.342**
1.000
.397**
-.078**
.000
.
.000
.000
2085
2675
2393
2143
.130**
.397**
1.000
-.213**
.000
.000
.
.000
3027
2393
4534
3114
.009
-.078**
-.213**
1.000
.594
.000
.000
.
3290
2143
3114
3388
Pearson Correlation
Sig. (2-tailed)
N
Pearson Correlation
Sig. (2-tailed)
N
Pearson Correlation
Sig. (2-tailed)
N
Pearson Correlation
Sig. (2-tailed)
N
Current PE
Expected Growth
in EPS: next 5 y
Beta
Payout Ratio
Current PE
Expected
Growth in EPS:
next 5 y
Beta
Payout Ratio
Correlation is significant at the 0.01 level (2-tailed).
**.

Aswath Damodaran
48
Using the PE ratio regressionnAssume that you were given the following information for Dell. Thefirm has an expected growth rate of 10%, a beta of 1.40 and pays nodividends. Based upon the regression, estimate the predicted PE ratiofor Dell.Predicted PE =(Work with absolute values in regression - 10 for 10% etc.)nDell is actually trading at 18 times earnings. What does the predictedPE tell you?

Aswath Damodaran
49

Aswath Damodaran
50

Aswath Damodaran
51
PE Ratio versus Growth - The Effect of Interest

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- Spring '11
- tnaga
- P/E ratio, PEG ratio, Aswath Damodaran