7 Flashcards
What are the standard valuation techniques
Book value
Dividend growth model
Earnings multiple
Discounted cash flow
What is book value
Firm value = book value of assets
Still a widely used and accepted method due to certification by accountants while also being perhaps most flawed

Based on historic numbers, ignores future
Based on accounting numbers that are potentially flawed and subject manipulation
Ignores risk
Ignores intangibles which are difficult to measure hence not all included in balance sheet
What is the dividend growth model
Equity value = present value of dividend payments
What is the multiples method
Very common method for valuing assets
Simple but with many potential pitfalls
Method uses multiples from another comparable company or average of a group of companies in conjunction with an earnings measure or other return measures of company for which value calculation is required
What are the advantages of multiples method
Easy
Makes intuitive sense
If your comparables are really comparable then it should work
What are the disadvantages of multiples method
Earnings used in most of methods are accounting figures – earnings are subject to manipulation
Earnings are subject to short-term fluctuations – looking for long run earnings
Often ignores growth potential
What are examples of widely used multiples
Price to earnings
Total asset value to EBIT
Market value of company to EBIT
price to sales
Price to book value 
What are the steps of discounted cash flow valuation
Forecast free cash flows up to some terminal date
Estimate terminal value (continuing value) which equals value after terminal date
Estimate cost of capital (discount rate)
Discount to present
What is free cash flow to firm FCFF
Cashflow to common shareholders, preferred shareholders and debt holders
What are the ways of estimating earnings growth
Look at past – historical growth and earnings per share as a typical starting point
Look at what others are projecting – other analysts may be using information you don’t have so often useful to know what their estimates are
Look at fundamentals – how much are they investing, what is return on their investment
What are the advantages of discounted cash flow valuation
Based upon an assets fundamentals so should be less exposed to market moods and perceptions
If investors buy businesses rather than stocks, DCF valuation is right way to think about what you are getting when you buy an asset
Forces you to think about underlying characteristics of firm and understand its business and brings you face-to-face with assumptions you are making when you pay a given price for an asset
What are the disadvantages of discounted cash flow valuation
Since it’s an attempt to estimate intrinsic value, it requires far more inputs and information rather than other valuation approaches. These inputs and information are not only noisy and difficult to estimate but can be manipulated by savvy analysts to provide conclusion he or she wants
What is intrinsic value
Perceived or calculated value of an asset, investment, or a company
When does discounted cash flow valuation work best
Approach is easiest to use for assets (firms) whose cashflows are currently positive, can be estimated with some reliability of future periods, where a proxy for risk that can be used to obtain discount rates is available.
It works best for investors who either have a long time horizon allowing market time to correct its valuation mistakes and for price to revert to true value or, are capable of providing catalyst needed to move price to true value as would be case if you were an active investor or a potential acquirer of whole firm
