CHAPTER 8 Stocks and Their Valuation - PowerPoint by G2iv1V

VIEWS: 0 PAGES: 21

									CHAPTER 9
Stocks and Their Valuation
    Features of common stock
    Stock valuations
        Constant dividend growth model
          The behavior of dividends and their PV
          The model

          Applying the model when g>r, g=0 and g<0

          Predict stock price in the future

          Dividend yield and capital gain

        Non-constant growth model
        Preferred stock

                                                 8-1
Facts about common stock
   Represents ownership
       Ownership implies control
       Stockholders elect directors
       Directors elect management
   Receives cash flow in the form of
    dividend
   Management’s goal: Maximize the
    stock price

                                        8-2
    Dividend growth model
       Value of a stock is the present value of the
        future dividends expected to be generated by
        the stock.

^       D1        D2            D3                  D
P0                                     ...            
     (1  rs ) (1  rs )
              1          2
                             (1  rs ) 3
                                                 (1  rs )



                                                           8-3
Constant growth stock
   A stock whose dividends are expected to
    grow forever at a constant rate, g.

       D1 = D0 (1+g)1
       D2 = D0 (1+g)2
       Dt = D0 (1+g)t
   Will the dividend becomes larger and larger?
   Will the present value of dividend grow?
   Suppose D0 is $2, dividend growth rate is
    5%, and discount rate is 10%, what is D50
    and PV(D50)?
   Graph representation                      8-4
 Future dividends and their
 present values
                                       t
     $           D t  D0 ( 1  g )



                           Dt
$1             PVD t 
                       ( 1  r )t


                        P0   PVD t

     1                                     Years (t)
                                                  8-5
Constant growth stock

   If g is constant, the dividend growth formula
    converges to:
           ^    D 0 (1  g) D1
           P0             
                   rs - g    rs - g




                                              8-6
What happens if g > rs?
   If g > rs, the constant growth formula
    leads to a negative stock price, which
    does not make sense.
   The constant growth model can only be
    used if:
       rs > g
       g is expected to be constant forever

                                               8-7
If rRF = 7%, rM = 12%, and β = 1.2,
what is the required rate of return on
the firm’s stock?
   Use the SML to calculate the required
    rate of return (ks):
       rs = rRF + (rM – rRF)β
           = 7% + (12% - 7%)1.2
           = 13%
   D0 = $2 and g is a constant 6%,


                                         8-8
What is the stock’s market value?
   Using the constant growth model:

              D1      $2.12
        P0        
             rs - g 0.13 - 0.06
            $2.12
          
             0.07
           $30.29


                                       8-9
     What would the expected price
     today be, if g = -5%?, if g=0?
   When g=-5% D1=1.9, P=1.9/(13%+5%)=10.56
   When g=0, The dividend stream would be a
    perpetuity.
     0               1        2          3
         rs = 13%
                                             ...
                    2.00    2.00       2.00
          ^    PMT $2.00
          P0            $15.38
                r   0.13

                                                   8-10
Computing other variables
       ^      D 0 (1  g) D1
       P0               
                 rs - g    rs - g
   Computing Ks
   Computing D
   Computing g




                                    8-11
What is the expected market price
of the stock, one year from now?
   D1 will have been paid out already. So,
    P1 is the present value (as of year 1) of
    D2, D3, D4, etc.
              ^    D2      $2.247
             P1        
                  rs - g 0.13 - 0.06
                   $32.10




                                                8-12
Future stock price
   What is the expected market price of the stock   P2,
    two years from now?
     ^     D3      $2.382
     P2        
          rs - g 0.13 - 0.06
          $34.03
   What is the expected market price of the stock   Pn, n
    years from now?
     ^   D0 (1 g)n 1 Dn 1
    Pn               
             rs - g     rs - g

                                                     8-13
The growth rate of stock price
   What is the % change of stock price from   P0   to   P1
    and from   P1   to   P2
   What is the % change of stock price from   Pn   to
    Pn+1
   What is the expected market price of the stock   P2,
    two years from now?
   P2 =P1 *(1+g)= P0 *(1+g)2

                                                     8-14
What is the expected dividend yield,
capital gains yield, and total return
during the first year?
   Dividend yield
      = D1 / P0 = $2.12 / $30.29 = 7.0%
   Capital gains yield
      = (P1 – P0) / P0
      = ($32.10 - $30.29) / $30.29 = 6.0%
   Total return (rs)
      = Dividend Yield + Capital Gains Yield
        = 7.0% + 6.0% = 13.0%

                                               8-15
Dividend Yield and Capital
Gain
   P0=D1/(r-g)
   k=(D1/P0)+g
   Total return=dividend yield + Capital
    gain
   g is capital gain for constant growth
    stock


                                        8-16
Supernormal growth:
What if g = 30% for 3 years before
achieving long-run growth of 6%?
   Can no longer use just the constant growth
    model to find stock value.
   However, the growth does become
    constant after 3 years.




                                            8-17
     Valuing common stock with
     nonconstant growth

     0 r = 13% 1               2              3              4
        s
                                                              ...
       g = 30%       g = 30%       g = 30%        g = 6%
D0 = 2.00        2.600         3.380         4.394         4.658
    2.301
    2.647
    3.045
                                             4.658
   46.114                          $
                                   P3                      $66.54
                 ^                        0.13 - 0.06
  54.107    = P0
                                                                   8-18
     Nonconstant growth:
     What if g = 0% for 3 years before long-
     run growth of 6%?

     0 r = 13% 1                2              3               4
        s
                                                                ...
       g = 0%          g = 0%       g = 0%          g = 6%
D0 = 2.00           2.00        2.00          2.00            2.12
    1.77
    1.57
    1.39
                                             2.12
   20.99                            $
                                    P3                       $30.29
                ^                          0.13 - 0.06
  25.72     = P0
                                                                     8-19
Preferred stock
   Hybrid security
   Like bonds, preferred stockholders
    receive a fixed dividend that must be
    paid before dividends are paid to
    common stockholders.
   However, companies can omit
    preferred dividend payments without
    fear of pushing the firm into
    bankruptcy.
                                        8-20
If preferred stock with an annual
dividend of $5 sells for $50, what is the
preferred stock’s expected return?

 Vp = D / rp
 $50 = $5 / rp

  rp = $5 / $50
     = 0.10 = 10%



                                       8-21

								
To top