CH 7.palepu
CH 7.palepu
Prospective
Analysis:
Valuation
Theory and
Concepts
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Key Concepts in Chapter 7
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Discounted Dividends Valuation
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Discounted Abnormal Earnings
• Abnormal earnings are those that differ from the
expected return: NIt – re * BVE0
• The discounted dividends method can be modified to
yield the following relationship:
Equity value = BVE0 + PV expected future abnormal
earnings
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Accounting Methods and Discounted
Abnormal Earnings
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Price Multiples Valuation
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Precautions in Using
Price Multiples Valuation
• Selecting comparable firms
– It may be difficult to identify comparable firms, even
within an industry
– Industry averages may be used instead
• Firms with poor performance
– Marginal profitability or earnings shocks must be
considered
• Adjustments for leverage
– Take care to maintain consistency between numerator
and denominator
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Determinants of Value to Book/Earnings
Multiples
• Value-to-book ratio is driven largely by:
– Magnitude of future abnormal ROEs
– Growth in book value
• Equity value-earnings can be derived from the
value-to-book formula:
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
ROE, Equity Growth, Price-to-Book Ratio,
and Price-Earnings Ratio
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Shortcut Forms of Earnings-Based Valuation
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Discounted Cash Flow Model
Requires:
1. Forecasts of fee cash flows (usually 5 – 10 years)
2. Forecasts of fee cash flows beyond terminal year
3. Discounting free cash flows using the cost of equity
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Comparing Valuation Methods
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy
Concluding Comments
Copyright (c) 2008 Thomson South-Western, a part of the Chapter 7: Prospective Analysis:
Thomson Corporation. Thomson, the Star logo, and Valuation Theory and Concepts
South-Western are trademarks used herein under license. Palepu & Healy