Stock Valuation Flashcards
asset classes
cash and cash equivalents
fixed income
equity
derivatives
alternative investment
what is stock?
corporates can finance through issuing stocks (the primary market) - market for sale of new shares
initial public offering (IPO)
first offering of stock to general public
seasoned equity offering (SEO)
additional fund raising of listed firms
stocks traded on secondary market
involves already existing securities being bought and sold on the exchanges or in the OTC market among investors, easier to sell and buy
bid price
bids are offers to buy, in dealer markets the bid price is the price at which the dealer is willing to buy , investors sell to the bid
ask price
ask prices are sell offers, in dealer markets the ask price is the price at which the dealer is willing to sell, investors must pay the ask price to buy the security
dividends
periodic payment for holding a stock
common stock vs preferred stock
common stock
- ownership
- residual claim, stockholders last in line of all who have a claim on the assets and income of the corporation
- limited liability, most shareholders can lose in the event of failure of the corporation
preferred stock
- perpetuity
- fixed dividends like a bond promises to pay a fixed amount of income each year
- priority over common
- treated as dividends rather than interest so not a tax deductible expense
- does not convey voting power
expected return
the percentage yield that an investor forecast from a specific investment over a set period of time
Dividends Payout Ratio (d)
Fraction of earnings
paid out as dividends
Plowback Ratio (b)
Fraction of earnings retained
by the firm, aka, retention ratio
relationship of Investment, NPV and Stock Value
New investment increases stock price only if the NPV
of the investment is positive.
ROE (Return on Equity)
the return a company can make on money reinvested in the business
ROE (Return on Equity) Equation
= EPS / Book equity per share
Book Value
Net worth of the firm according to the balance sheet – Historic Value
Book Equity per Share
The book value of a company divided by the number of
shares outstanding
EPS
Total earnings divided by the number of shares outstanding
early years life cycle of firms
- Ample opportunities for profitable
reinvestment in the company - Competitors may have not entered
the market. - Payout ratios are low
- Growth is correspondingly rapid
later years life cycle of firms
Later Years
* Attractive opportunities for
reinvestment may become harder to
find.
* Competitors enter the market
* Payout ratios are high
* Dividend growth slows because the
company has fewer investment
opportunities.
Present Value of Growth Opportunities
(PVGO)
Net present value of a firm’s future investments.
Method of Comparables (Comps)
Estimate the value of the firm based on the value of other,
comparable firms or investments that we expect will
generate very similar cash flows in the future
The Aggregate Stock Market
Most popular approach to valuing the overall
stock market is the earnings multiplier approach
applied at the aggregate level
