EQUITY VALUATION: CONCEPTS AND BASIC TOOLS

1. A is right. The present market value of the inventory exceeds the higher certain of the analyst’s estimate of the intrinsic worth of the inventory.
2. A is right. The market value is lower than the estimated intrinsic, or basic, worth.
3. C is right. Asset-based valuation fashions calculate the intrinsic worth of fairness by subtracting liabilities from the market worth of property.
4. C is right. It’s a type of current worth, or discounted money stream, mannequin. Each enterprise worth (EV) and free money stream to fairness (FCFE) are types of multiplier fashions.
5. C is right. Multiplier valuation fashions (within the type of P/B) and asset-based valuation fashions (within the type of changes to e book worth) use e book worth, whereas current worth fashions sometimes low cost future anticipated money flows.
6. B is right. To make use of a reduced money stream mannequin, the analyst would require FCFE or dividend information. As well as, the analyst will want information to calculate an acceptable low cost charge.
7. B is right. The FCFE mannequin assumes that dividend-paying capability is mirrored in FCFE.
8. C is right. In response to the dividend low cost mannequin, the intrinsic worth of a inventory at present is the current worth of all future dividends. On this case, the intrinsic worth is the current worth of D₁, D₂, and P₂. Observe that P₂ is the current worth at Interval 2 of all future dividends from Interval 3 to infinity.
9. A is right. Within the FCFE mannequin, the intrinsic worth of inventory is calculated by discounting anticipated future FCFE to current worth. No additional changes are required.
10. C is right. Dividend low cost fashions can be utilized for a inventory that pays a present dividend or a inventory that’s anticipated to pay a dividend. FCFE can be utilized for each of these shares and for shares that don’t, or should not anticipated to, pay dividends within the close to future. Each of those fashions are types of present-value fashions.
11. B is right. The anticipated annual dividend is 4.80% 3 $25 5 $1.20. The worth of a most popular share is $1.20/0.0449 5 $26.73.
12. B is right. The requiredrate of return, r, can range broadly relying on the inputsand isnot distinctive. A most popular inventory with a continuing dividend wouldn’t have a progress charge to estimate, and the investor’s time horizon would haven’t any impact on the calculation of intrinsic worth.
13. C is right. P₀ 5 D₁/ (r – g) 5 1.75(1.092)/(0.123 – 0.092) 5 $61.65.
14. C is right. In response to the Gordon progress mannequin, V₀ 5 D₁/(r – g). On this case, D₁ 5 $2.00 3 1.04 5 $2.08, so V₀ 5 $2.08/(0.07 – 0.04) 5 $69.3333 5 $69.33.
15. A is right. The present value of h22.56 is lower than the intrinsic worth (V₀) of h24.64 ; due to this fact, the inventory seems to be at the moment undervalued. In response to the two-stage dividend low cost mannequin:

V05 t5n 1   D 0ðð1111r gÞSt Þt                       ð11Vnr Þ                and         Vn5Dn11

1              n                      r2gL

Dn115D0ð11gSÞnð11gLÞ

D₁ 5h1.60 3 1.09 5h1.744

D₂ 5h1.60 3 (1.09)² 5h1.901

D₃ 5h1.60 3 (1.09)³ 5h2.072

D₄ 5h1.60 3 (1.09)⁴ 5h2.259

D₅ 5 [h1.60 3 (1.09)⁴](1.04) 5h2.349

V₄ 5h2.349/(0.12 – 0.04) 5h29.363

                      2:259     29:363 V0 5 ð1:12Þ 1 ð1:12Þ 1 ð1:12Þ 1 ð1:12 Þ4 1 ð1:12Þ4

5 1.557 1 1.515 1 1.475 1 1.436 1 18.661

5h24.64 (which is larger than the present value of h22.56).

1. C is right.

V0 5ð1D 11rÞ1ð1D12r Þ21ð11P2rÞ2

0:70              

5               11

ð1:083Þ  ð1:083 Þ                ð1:083Þ

5 $28:01

Observe that D₁ 5 0.58(1.20) 5 0.70, D₂ 5 0.58(1.20)(1.15) 5 0.80, and P₂ 5 D₃/

(ok 2 g) 5 0.80(1.056)/(0.083 2 0.056) 5 31.29 17. B is right.

V⁰ 5ð1D 1¹rÞ1ð1D1²r Þ²1ð1D₁³rÞ³1ð1D₁⁴rÞ⁴1ð1₁P⁴rÞ⁴

468            526:44   9000

⁵ð1:12Þ¹ð1 12 Þ ¹ð1 12 Þ ¹ð               Þ⁴¹ð1_:12Þ⁴

:               :               1_:12

5f7; 220 B is right. The Gordon progress mannequin (often known as the fixed progress mannequin) can be utilized to worth dividend-paying corporations

1. in a mature part of progress. A steady dividend progress charge is usually a believable assumption for such corporations.

Chapter 10 Fairness Valuation: Ideas and Fundamental Instruments 125

1. C iscorrect.The Gordongrowthmodel isbestsuitedto valuing mature corporations. The twostage mannequin isbestfor corporations which are transitioning from a progress stage to a mature stage. The three-stage mannequin is suitable for younger corporations simply coming into the expansion part.
2. A is right. The corporate is a mature firm with a steadily rising dividend charge. The 2-stage (or multistage) mannequin is pointless as a result of the dividend progress charge is predicted to stay steady. Though an FCFE mannequin might be used, that mannequin is extra usually chosen for corporations that at the moment pay no dividends.
3. C is right. The justified ahead P/E is calculated as follows:

D₁ P0₅ E1

E₁                   r2g

P/E is inversely associated to the required charge of return, r, and straight associated to the expansion charge, g, and the dividend payout ratio, D/E.

• A is right. Multiples based mostly on comparables are grounded within the regulation of 1 value and consider historic a number of values. In distinction, P/E multiples based mostly on fundamentals could be based mostly on the Gordon progress mannequin, which takes under consideration future anticipated dividends.

A is right. The assertion is inaccurate in each respects. Though multiples could be calculated from historic information, forecasted values can be utilized as effectively. For corporations with out accounting earnings, a number of

1. different multiples can be utilized. These multiples are sometimes particular to an organization’s business or sector and embrace price-to-sales and price-tocash stream.

Yr	P/E	P/CF	P/R
2005	4.9	5.4	1.2
2006	6.1	8.6	1.5
2007	8.3	7.3	1.9
2008	9.2	7.9	2.3
Common	7.1	7.3	1.7

1. A is right. Tanaka shares are almost certainly overvalued. Because the desk under reveals, all of the 2009 multiples are at the moment above their 2005–2008 averages.

• B is right.

D₁                  2:7

P0 5 E1 5 5:7          5 8:5

E₁                   r2g          0:083520:0275

• B is right. P/E 5 Present value/EPS, and Estimated P/E 5 Present value/Estimated EPS.

Alpha P/E 5 $57.32/$3.82 5 15.01

Alpha estimated P/E 5 $57.32/4.75 5 12.07

Delta P/E 5 $18.93/$1.35 5 14.02

Delta estimated P/E 5 $18.93/$1.40 5 13.52

• C is right. Relative to the others, Pioneer Belief has the bottom P/E a number of and the P/B a number of is tied for the bottom with Prime Financial institution. Given the regulation of 1 value, comparable corporations ought to commerce at comparable P/B and P/E ranges. Thus, based mostly on the data introduced, Pioneer is almost certainly to be undervalued.
• C is right. Enterprise worth is calculated because the market worth of fairness plus the market worth of debt and most popular inventory minus short-term investments. Subsequently, the market worth of fairness is enterprise worth minus the market worth of debt and most popular inventory plus short-term investments.
• A is right. Working earnings could also be used rather than EBITDA when calculating the enterprise worth a number of. EBITDA could also be used when firm earnings are destructive as a result of EBITDA is often optimistic. The e book worth of debt can’t be used rather than market worth of debt.
• A is right.

EV 5 10.2 3 22,000,000 5 $224,400,000

Fairness worth 5 EV – Debt 1 Money 5 224,400,000 – 56,000,000 1 1,500,000

5 $169,900,000 B is right. The market worth of debt have to be calculated and brought out of the enterprise worth. Enterprise worth, typically often called the price of a takeover, is the price of the acquisition of the corporate, which

1. would come with the idea of the corporate’s money owed at market worth.
2. B is right. Intangible property are arduous to worth. Subsequently, asset-based valuation fashions work finest for corporations that should not have a excessive proportion of intangible property.
3. A is right. Asset-based valuations are most frequently used when an analyst is valuing personal enterprises. Each B and C are issues in asset-based valuations however usually tend to be causes to keep away from that valuation mannequin fairly than causes to make use of it.
4. B is right. In response to the studying, analysts could not have entry to market quotations for firm debt.
5. A is right. Though all fashions can be utilized to match varied corporations, multiplier fashions have the benefit of decreasing various basic information factors right into a format that enables direct comparisons. So long as the analyst applies the information in a constant method for all the businesses, this method offers helpful comparative information.
6. B is right. Very small adjustments in inputs, reminiscent of required charge of return or dividend progress charge, may end up in massive adjustments to the valuation mannequin output. Some presentvalue fashions, reminiscent of FCFE fashions, can be utilized to worth corporations with out dividends.

Additionally, the intrinsic worth of a safety is impartial of the investor’s holding interval.