Chapter 18 – Equity Valuation Models
18-1
CHAPTER EIGHTEEN
EQUITY VALUATION MODELS
CHAPTER OVERVIEW
This chapter discusses the process of valuation of common stock. It describes the relationships between
LEARNING OBJECTIVES
After studying this chapter, the student should be familiar with the role of a security’s intrinsic value
PRESENTATION OF MATERIAL
18.1 Valuation by Comparables
There are three major types of approaches used in equity valuation. One approach is to tie value to an
18.2 Intrinsic Value versus Market Price
Underlying the process of fundamental analysis is the concept of intrinsic value. The intrinsic value is the
18.3 Dividend Discount Models
Stress to the students that though there are several models presented in this section and the following
sections, the discounted dividend concept remains unchanged. Equity’s value is based on some future
Chapter 18 – Equity Valuation Models
Analysts often partition the value of stock into a no growth and a present value of growth opportunities
18.4. Price Earnings Ratios
An alternative approach to use of the dividend growth model approach is to use the P/E approach. The
P/E is used extensively in industry and is helpful in comparing relative values of firms. The appropriate
P/E is a function of two factors; the required rate of return and expected growth in earnings. While the
18.5 Free Cash Flow Valuation Approaches
Another popular approach in valuing firms is the free cash flow model. Once free cash flow is estimated,
18.6 The Aggregate Stock Market
The most popular approach used in forecasting the aggregate market is the earnings multiplier approach.
An example of using this approach is shown in Table 18.4.
Excel Model