corporate valuation Flashcards
equity vs enterprise value
- Just the value of the equity, it does not consider the value, which is added by debt
- the sum of the value of equity and the debt is the value of the enterprise
Discounted Dividend Model
- Basic idea: the value of a stock for an investor is all future dividend payment plus the price of the stock when selling it
- because these payments are in the future we have to discount them x/(1+r)t
Gordon Growth Model
- Special version of the DDM
- It assumes that the dividends are growing with a constant growth-rate g (g < r)
- It implies a constant growth rate for infinity or a long period of time
only works with very stable companies, like monopolies for utilities
Estimating growth rates
g = ROE * plowback ratio
ROE = Earnings per Share/ Book Value per Share
Plowback ratio = 1 - Dividends/EPS
Not paid dividends are reinvested into the company and therefore impact the Growth rate. The GGM is very useful but also very much simplified
Present Value of Growth Opportunity
- a firm gives out all dividends => no growth of the dividends
- we can calculate the PV of the company in this scenario with no growth
- a firm holds back a part of their dividends =>growth of the dividends (ROE > r)
- we can calculate the PV of the company in this scenario with growth
- If the ROE > r the PV of the company with growth will be higher
- the difference between these values are is called Present Value of Growth Opportunity (PVGO)
PV2 - PV1 = PVGO
- PVGO is the NPV of a company’s future investments
Dividends
payout ratio
payout policy
dividend policy
- payout ratio is the proportion of income that is paid out to shareholders
- payout ratio = 1 - plowback ratio
- high payout ratio => high dividend yield today but lower dividend yield in the future
- vice versa
- payout policy answers to different questions
- how much cash should the company payout to its shareholders?
- what kind of dividend policy should be used? cash dividends or repurchasing stocks?
- repurchasing stocks means increases the stock value and is a singular action with no commitments in the future
- Cash dividends do not affect the stock price at that moment, but the capital markets think, that the company can pay these dividends every year from now on
Limitations of a dividend-based valuation
very intuitive and straightforward, BUT…
- Young and high growth firm often do not pay dividends
- The number of dividend payment decreased over the last years
- stock buyback programs are double the value of stock dividends in the USA in 2007
- That’s why a focus on dividends only isn’t complex enough
Augmented Dividend
augmented dividend = dividends + stock buybacks
but there are still problems:
- stock buybacks often spike in contrast to dividends => no signaling effect, therefore we have to use an average over a period of time
- the is an implicit assumption in the concept of augmented dividends -> managers pay out excessive cash to the shareholders, that’s not true, many companies build huge cash reserves in their balances
- some companies don’t pay augmented dividends at all
we need a better solution
Discounted Cash Flow (DCF) Model
Instead of dividends, free cash flows (FCF) can be used to value a company, too.
FCFs are the difference between cash revenue and cash expenses. Transactions, which do change liquidity, are not considered.
Calculation of FCF:
EBIT
-Taxes on EBIT
=NOPAT
- /+ noncash transactions like depreciation, deduction on non-cash value gains
- CAPEX capital expenditures
- deltaWC change in non-cash working capital
=
FCF
Calculating the PV via DCF
- Discounting all assumed FCF in the next until the last our last assumption
- This last assumption is called H => horizon value
- from there on we will add a constant growth rate (g) to H and discount them accordingly to their years
- add everything up
Advantages of the DCF method
- considers the cash flows generated in one year
- different countries have different accounting standards, therefore the profit varies a lot but not the cashflow therefore it’s universal
- It is independent of dividend payments, there are just individual decisions of the management and don’t have to refect the value of the company
pitfalls of the DCF method
- Transparancy: which level of CAPEX has been chosen and why? => often made with assumptions
- Are the FCF forecasts realistic?
- Are the rate of growth and the future cost right?
multiple valuations
- often more informative to compare the relative value of different firms
- market expectations can be included in the valuation
- Procedure
- determine the peer group
- choose one or several financial ratios
- calculate the ratios for the peer group and the compared company
- calculate the mean or media of the peer group to compare it
primary use cases for multiple valuation
Equity valuation
- often used as a second or additional valuation method
- sometimes used as a primary method or non-public companies (IPO)
Investor’s decision
- a primary decision tool for style investment
- frequently used for stock screening
- the aggregate of these valuations can be used to measure the market valuation and investors sentiment
Price-Earnings multiple
Gives us an idea of how many times we have to pay the earning when we