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    Discounted Dividend Valuation: Presenter Venue Date

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    Ainie Intwines
    This document discusses various discounted dividend valuation models, including the Gordon Growth Model and multi-stage models. It provides examples of how to value stocks using these models, including calculating implied growth rates and required returns. Methods for estimating sustainable growth rates using approaches like the DuPont model are also covered. Key applications of the Gordon Growth Model discussed are valuing stocks, calculating implied values, and deriving justified price-to-earnings ratios.

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    Discounted Dividend Valuation: Presenter Venue Date

    Uploaded by

    Ainie Intwines
    101 views46 pages
    This document discusses various discounted dividend valuation models, including the Gordon Growth Model and multi-stage models. It provides examples of how to value stocks using these models, including calculating implied growth rates and required returns. Methods for estimating sustainable growth rates using approaches like the DuPont model are also covered. Key applications of the Gordon Growth Model discussed are valuing stocks, calculating implied values, and deriving justified price-to-earnings ratios.

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    Cash Flow Analysis

    Original Title

    DDM_CFA

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    This document discusses various discounted dividend valuation models, including the Gordon Growth Model and multi-stage models. It provides examples of how to value stocks using these models, including calculating implied growth rates and required returns. Methods for estimating sustainable growth rates using approaches like the DuPont model are also covered. Key applications of the Gordon Growth Model discussed are valuing stocks, calculating implied values, and deriving justified price-to-earnings ratios.

    Copyright:

    © All Rights Reserved
    Download as PPTX, PDF, TXT or read online from Scribd
    Download as pptx, pdf, or txt
    101 views46 pages

    Discounted Dividend Valuation: Presenter Venue Date

    Uploaded by

    Ainie Intwines
    This document discusses various discounted dividend valuation models, including the Gordon Growth Model and multi-stage models. It provides examples of how to value stocks using these models, including calculating implied growth rates and required returns. Methods for estimating sustainable growth rates using approaches like the DuPont model are also covered. Key applications of the Gordon Growth Model discussed are valuing stocks, calculating implied values, and deriving justified price-to-earnings ratios.

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    © All Rights Reserved
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    of 46

    DISCOUNTED DIVIDEND

    VALUATION

    Presenter
    Venue
    Date

    DISCOUNTED CASH FLOW MODELS

    CHOICE OF DISCOUNTED CASH FLOW


    MODELS

    VALUING COMMON STOCK USING


    A MULTIPERIOD DDM

    EXAMPLE: VALUING COMMON STOCK USING


    A MULTIPERIOD DDM

    0
    D
    P

    $1.00

    $1.05

    $1.10
    $20.00

    EXAMPLE: VALUING COMMON STOCK USING


    A MULTPERIOD DDM

    $1.00 $1.05 $21.10


    V0

    2
    3
    1.10 1.10
    1.10
    V0 $17.63

    VALUING COMMON STOCK USING


    THE GORDON GROWTH MODEL

    D0 (1 g )
    D1
    V0

    rg
    rg

    EXAMPLE: VALUING COMMON STOCK USING


    THE GORDON GROWTH MODEL
    Risk-free rate

    3.0%

    Equity risk premium

    6.0%

    Beta

    1.20

    Current dividend
    Dividend growth rate
    Current stock price

    $2.00
    5.0%
    $24 .00

    VALUING COMMON STOCK USING


    THE GORDON GROWTH MODEL

    CAPM: r = 3% + 1.2(6%) = 10.2%


    $2.00(1 0.05)
    $2.10
    V0

    $40.38
    0.102 0.05
    0.102 0.05

    EXAMPLE: VALUING PREFERRED STOCK

    $2.00
    V0
    $19.61
    0.102 0

    EXAMPLE: CALCULATING THE IMPLIED GROWTH


    RATE USING THE GORDON GROWTH MODEL
    Using the previous common stock example and the current stock price of $24,
    what is the implied growth rate?

    $2.00(1 g )
    $24
    0.102 g
    2.448 24 g 2.00(1 g )
    26 g 0.448
    g 1.72%

    CALCULATING THE IMPLIED REQUIRED RETURN


    USING THE GORDON GROWTH MODEL

    D1
    V0
    rg
    D1
    r
    g
    P0

    EXAMPLE: CALCULATING THE IMPLIED REQUIRED


    RETURN USING THE GORDON GROWTH MODEL
    Using the previous common stock example and the current stock price of $24,
    what is the implied required return?

    D1
    r
    g
    P0
    2.10
    r
    0.05
    24
    r 8.75% 5% 13.75%

    PRESENT VALUE OF GROWTH


    OPPORTUNITIES

    E1
    V0
    PVGO
    r
    E1
    PVGO P0
    r

    PRESENT VALUE OF GROWTH


    OPPORTUNITIES

    E1
    V0
    PVGO
    r
    P0 1 PVGO

    E1 r
    E1

    EXAMPLE: PRESENT VALUE OF GROWTH


    OPPORTUNITIES
    Stock price
    Expected earnings
    Required return on stock

    .
    $80 00
    .
    $5 00
    10%

    EXAMPLE: PRESENT VALUE OF GROWTH


    OPPORTUNITIES

    E1
    PVGO P0
    r
    5
    PVGO $80
    $30
    0.10

    EXAMPLE: PRESENT VALUE OF GROWTH


    OPPORTUNITIES

    P0 1 PVGO

    E r
    E
    P0
    1
    30

    E 0.10 5
    16 10 6

    USING THE GORDON GROWTH MODEL TO


    DERIVE A JUSTIFIED LEADING P/E

    D1
    V0
    rg
    P0
    D1 E1

    E1
    rg
    P0
    1 b

    E1
    rg

    USING THE GORDON GROWTH MODEL TO


    DERIVE A JUSTIFIED TRAILING P/E

    D 0 (1 g )
    V0
    rg
    P0
    D 0 (1 g ) E0

    E0
    rg
    P0
    (1 b)(1 g )

    E0
    rg

    EXAMPLE: USING THE GORDON GROWTH


    MODEL TO DERIVE A JUSTIFIED P/E
    Stock price
    Trailing earnings per
    share
    Current dividends per
    share
    Dividend growth rate
    Required return on
    stock

    $50 .00
    $4 .00
    $1.60
    5.0%
    9.0%

    EXAMPLE: USING THE GORDON GROWTH


    MODEL TO DERIVE A JUSTIFIED LEADING P/E

    P0
    1 b

    E1
    rg
    P0
    $1.60 $4.00

    10.0
    E1
    0.09 0.05

    EXAMPLE: USING THE GORDON GROWTH


    MODEL TO DERIVE A JUSTIFIED TRAILING P/E

    P0 (1 b)(1 g )

    E0
    rg
    P0 ($1.60 / $4.00)(1.05)

    10.50
    E0
    0.09 0.05
    Actual P/E = $50.00/$4.00 = 12.50

    ISSUES USING THE GORDON GROWTH MODEL

    Strengths
    Simple and applicable to
    stable, mature firms

    Limitation
    s
    Not applicable to nondividend-paying firms

    Can be applied to entire


    markets

    g must be constant

    g can be estimated using


    macro data

    Stock value is very sensitive


    to r g

    Can be applied to firms that


    repurchase stock

    Most firms have nonconstant


    growth in dividends

    CHOICE OF DISCOUNTED CASH FLOW


    MODELS

    Rapidly increasing
    earnings
    Heavy reinvestment
    Small or no dividends

    Growth

    Transition
    Earnings growth
    slows
    Capital reinvestment
    slows
    FCFE and dividends
    increasing

    ROE = r
    Earnings and
    dividends growth
    matures
    Gordon growth model
    useful

    Maturity

    GENERAL TWO-STAGE DIVIDEND DISCOUNT


    MODEL (DDM)

    V0

    D0 1 g S

    t 1

    1 r

    D0 1 g S 1 g L
    n

    1 r

    r gL

    EXAMPLE: GENERAL TWO-STAGE DDM

    EXAMPLE: GENERAL TWO-STAGE DDM


    Step 1: Calculate the first three dividends:
    D1 = $2.00 x (1.15) = $2.30
    D2 = $2.30 x (1.15) = $2.6450
    D3 = $2.6450 x (1.15) = $3.0418
    Step 2: Calculate the Year 4 dividend:
    D4 = $3.0418 x (1.04) = $3.1634
    Step 3: Calculate the value of the constant growth
    dividends:
    V3 = $3.1634 / (0.10 0.04) = $52.7237

    EXAMPLE: GENERAL TWO-STAGE DDM

    $2.30 $2.6450 $3.0418 $52.7237


    V0

    1.10
    1.102
    1.103
    1.103
    V0 $46.17

    EXAMPLE: GENERAL TWO-STAGE DDM


    Using the previous example, now well use the trailing
    P/E to determine the terminal value
    D4 is $3.1634
    Assume also that the projected P/E is 13.0 in Year 4 and
    that the firm will pay out 60% of earnings as dividends
    Year 4 earnings are then $3.1634/0.60 = $5.2724
    The stock price in Year 4 is then $5.2724 13 = $68.54

    EXAMPLE: GENERAL TWO-STAGE DDM

    $2.30 $2.6450 $3.0418 $3.1634 $68.54


    V0

    2
    3
    1.10
    1.10
    1.10
    1.10 4
    V 0 $55.54

    TWO-STAGE H-MODEL

    D0 1 g L D0 H g S g L
    V0
    r gL

    EXAMPLE: TWO-STAGE H-MODEL


    Current dividend
    gs

    $3.00
    20%

    gL
    6%
    H
    5
    Required return on stock
    10%
    Current stock price
    $120

    EXAMPLE: TWO-STAGE H-MODEL

    D0 1 g L D0 H g S g L
    V0
    r gL
    $3 1 0.06 $3 5 0.20 0.06

    V0
    0.10 0.06
    V0 $79.50 $52.50 $132.00

    SOLVING FOR THE REQUIRED RETURN USING


    THE TWO-STAGE H-MODEL

    D0

    r 1 g L H g S g L g L
    P0

    1 0.06 5 0.20 0.06 0.06 10.40%


    r

    120

    EXAMPLE: THREE-STAGE MODEL


    Firm pays a current dividend of $1.00
    Growth rate is 20% for next two years
    Growth then declines over six years to a stable
    rate of 5%
    Required return is 10%
    Current stock price is $50

    THREE-STAGE MODEL
    Assumes three distinct growth stages:
    First stage of growth
    Second stage of growth
    Stable phase of growth
    H-model can be used for last two stages if growth
    declines linearly

    THREE-STAGE MODEL EXAMPLE


    2

    $1 1.20 $1 1.20
    V0

    1
    2
    1.10
    1.10
    2 6
    $1 1.20 0.20 0.05
    2
    2

    1.10 0.10 0.05

    $1 1.20 1.05
    2

    1.10 0.10 0.05

    V0 $1.09 $1.19 $10.71 $24.99 $37.98

    ESTIMATING THE GROWTH RATE

    Industry or
    Macroeconomic
    Average

    g = b ROE
    DuPont formula
    ROE = r
    ROE = industry ROE

    THE SUSTAINABLE GROWTH RATE

    ROE

    THE DUPONT MODEL


    Net income

    Total assets

    ROE =

    Total assets

    Shareholders'
    equity

    Sales
    Total assets
    Net income


    Sales
    Total
    assets
    Shareholders'
    equity

    ROE =

    Net income Dividends


    Total assets
    Sales
    Net income

    Total assets
    Net
    income
    Sales
    Equity

    EXAMPLE: DUPONT MODEL


    Net profit margin
    Total asset
    turnover

    5.00%

    Equity multiplier

    2.0

    Retention ratio

    1.5

    60%

    EXAMPLE: DUPONT MODEL

    Net income Dividends Net income


    g

    Net income
    Sales

    Sales Total assets

    Total assets Equity


    g 0.60 5% 1.5 2.0
    g 9.0%

    SUMMARY
    Choice of Discounted Cash Flow Models

    Dividend discount models, free cash flow models,


    residual income models
    Dividend models most appropriate for
    Mature, profitable, dividend-paying firms
    Noncontrolling shareholder perspective
    Gordon Growth Model

    Assumes constant g and r > g


    Applicable to mature, stable firms
    Estimated value very sensitive to r g denominator

    SUMMARY
    Uses of Gordon Growth Model

    Preferred stock valuation where g = 0


    PVGO Value from future growth
    Justified leading and trailing P/Es
    Implied r and g

    Phases of Growth

    Growth
    Transition
    Maturity

    SUMMARY
    Multistage Models

    General two-stage model: growth abruptly


    declines
    H-model: growth gradually declines
    Three-stage model: can use general or H-model
    Sustainable Growth Rate

    g = Retention ratio ROE


    DuPont analysis:
    ROE = Profit margin Asset turnover Equity
    multiplier

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