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Baines Investment, Inc. Case 14
Stock Valuation
Purpose: The case illustrates the use of the capital asset pricing model (CAPM) in valuing stock.
Because of the detailed explanations given in the case, it can be introduced after Chapter 10 even though
the CAPM discussion is in Chapter 11. The author of the case covers this gap. Also, the issue of
determining a beta for a privately held company is discussed and illustrated. The liquidity discount for a
non-public company is further illustrated and there are ample opportunities for computing the P/E ratio
under different scenarios.
Relation to Text: The case should follow Chapter 10 or Chapter 11.
Complexity: The case is moderately complex and should require 30-45 minutes.
Solutions
1. Average beta
Company Beta
Armour Holdings 1.40
2. Kj = Rf + β (Km - Rf )
= 6% + 1.10 (11% - 6%)
3.
30$
06.
80.1$
055.115.
80.1$
1
0
gK
D
P
j
Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent
of McGraw-Hill Education.
5. $30 Stock price
Adjusted P/E ratio = Adjusted stock price / EPS
6. New Stock price = $30 × 1.40 = $42
7. The liquidity discount would approach zero as the company begins to enter the public market. This,
Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent
of McGraw-Hill Education.
