Study session 10 & 11

Question 0

Intrinsec Value_analyst - price =

Answer 0

(IV_actual - price) + (IV_analyst - IV_actual)

Question 1

Conglomerate discount

Answer 1

the amount by which market value under-represents sum-of-the-parts value

Question 2

equity risk premium=

Answer 2

required return on equity index - risk-free rate

Question 3

Two types of estimates of the equity risk premium

Answer 3

Historical estimates

Forward-looking estimates:Gordon Growth model, Macroeconomics models, survey estimates

Question 4

Strength and weakness

Answer 4

+: theyse of proven models and models and current information

-: the estimates are only appropriate for developed countries where public equities represent a relatively large share economy

Question 5

Ibbotson-Chen estimates of the risk premium

Answer 5

equity risk premium=

[1+î][1+rÊg][1+PÊg]-1+Ÿ-eRF

î= expected inflation
rÊg= expected real growth in EPS
PÊg= expected changes in the P/E ratio
Ÿ= the expected yield on the index
eRF= the expected risk-free rate

Question 6

Fama-French Model for required return on stock j

Answer 6

required return of stock j= RF + B_mkt,j * (R_mkt - RF) + B_SMB,j * (R_small - R_Big) + B_HML * (R_HMB - R_LBM)

B = Beta
SMB= small-cap minus big-cap
HML = High book-to-market portfolio Minus Low book-to-market portfolio

Question 7

Pastor-Stambaugh model of required return

Answer 7

it adds liquidity factor to the Fama-French model

less liquid assets should have a positice beta, while more liquid assets should have a negaive beta

Question 8

Build-up method for required return and advantages

Answer 8

it is usually applied to closely held companies where betas are not readily obtainable

required return = RF + equity risk premium + size premium + specific-company premium

Question 9

Bond-yield plus risk premium method

Answer 9

appropriate if the company has publicly traded debt

the method simply adds a risk premium to the yield to maturity (YTM) of the company’s long-term debt

Question 10

Beta estimates for thinly traded stocks and nonpublic companies

unlevering Beta

Answer 10

Step 1 : identify a benchmark company XYZ, which is publicly traded and similar to ABC

Step 2: estimates the beta for XYZ

Step 3: Unlever XYZ’ Beta:
unlevered Beta XYZ = beta_XYZ* (1/ (1+debt of XYZ/Equity of XYZ))

Step 4: Lever up for ABC:
estimate of Beta for ABC=(unlevered Beta of XYZ)* (1+ debt of ABC/equity of ABC)

Question 11

Porter’s Five Forces

Answer 11

Threat of new entrants in the industry
Threat of substitutes
Bargaining power of buyers
Bargaining power of suppliers
Rivalry among existing competitors

Question 12

Definition of predictability

Answer 12

hiw accurately and how far into the future a company can forecast factors such as:

industry demand
corporate performance
market expectation

Question 13

Definition of malleability/mutability

Answer 13

tue extent to wich a company and uta competitors can influence these industry factors

Question 14

Strategy formulation style

1) Less predictable + less malleable
2) more predictable + less malleable
3) Les predictable + more malleable
4) more predictable + more malleable

Answer 14

1) adaptative
2) Classical
3) Shaping
4) Visionnary

Question 15

Bottom-up vs Top-down approaches for developibg inputs to equity valuation models

Answer 15

Bottom-up: analysis starts with individual company analysis

Top-down: “”””” with expectation about a macroeconomic variable

hybrid: mix of both

Question 16

Net debt

Answer 16

gross debt - cash, cash equivalents, and shor-term securities

Question 17

Net interest expense

Answer 17

gross interest expense - interest income on cash and short-term debt securities

Question 18

1) statutory rate
2) effective tax rate
3) cash tax rate
4) income tax expense

Answer 18

1) the % tax charged in the country where the firm is domicilied
2) income tax expense as a % of pretax income on the income statement
3) cash taxes paid as a % of pretax income
4) cash tax due + changes in deferred tax liabilities - changes in deferred tax assets

Question 19

Return on invested capital (ROIC)

Answer 19

Net operating profit adjusted for taxes (NOPLAT) / invested capital (op. assets - op. liabilities)

Question 20

Dividends are appropriate as a measure of cash flow in the following cases:

Answer 20

• The company has a history of dividend payment
• The dividend policy is clear and related to the earnings of the firm
• The perspective is that of a minority shareholder

Question 21

Free cash flow models are most appropriate:

Answer 21

• For firms that do not have a dividend payment history or have a dividend payment history that is not clearly and appropriately related to earnings
• For firms with frer cash flow that corresponds with their profitability
• When the valuation perspective is that of a controlling shareholder

Question 22

Residual income approach is most appropriate for:

Answer 22

• Firms that do not have dividend histories
• Firms that havenegative free cash flow fir the forseeabke future(usually due to capital demands)
• Firms with transparent financial reporting and high quality earnings

Question 23

justified leading P/E

Answer 23

P_o / E_1 = D_0*(1+g)/E_0/(r-g)

= (1-b)*(1+g)/(r-g)

Question 24

Valuation using the H-Model

Answer 24

(D_0(1+g_long term)/(r-g_long term))+(D_0H*(g_short term - g_long term)/(r-g_long term)

where H = t/2 = half-life in years of high-growth period

Question 25

sustainable growth rate

Answer 25

retention rate * ROE

Question 26

DuPont ROE

Answer 26

NI/Stockholder equity=

NI/Sales)(Sales/Total Assets)(Total assets/Stockholder’ equity

Question 27

DuPont growth rate

Answer 27

((NI-dividend) / Ni)(NI/Sales)(Sales/Total assets)*(Total assets/stockholders’ equity)