Terminal Value
Valuing a stock involves assuming that its growth rate will slow down to a long-term rate comparable to the economy. The value projected at the end of the high-growth stages based on the long-term growth rate is known as the…
Stages of a Company’s Growth
Forecasting a single stable dividend growth rate for a company into the indefinite future is not realistic for many companies because companies experience different growth rates during their life cycles. Therefore, analysts may assume growth may fall into three stages:…
Interpreting Credit Spread
A corporate bond yield is made up of the benchmark yield and the credit spread. Benchmark yield The benchmark yield is affected by macroeconomic factors, including: The expected inflation rates. The expected real rate of return. Risk aversion for uncertainty…
Multiperiod Models
Two-Stage DDM There are several assumptions of the first version of the two-stage DDM: The first stage represents a period of abnormal growth. The second stage represents a period of sustainable growth. There is a sudden transition from abnormal growth…
Strengths and Limitations of the Gordon Growth Model
Strengths It is simple and easy to implement. It is appropriate for valuing mature, dividend-paying companies. It is used to judge whether an equity market is fairly valued. It is used to model the last growth stage in a multistage…
Value of a Noncallable Perpetual Preferred Stock
Firms with no additional opportunities to generate returns above the required rate of return should distribute all of their earnings in dividends. Their securities have a specified fixed dividend rate and have no maturity date. As dividends on these securities…
Gordon Growth Model and the Price-to-Earnings Ratio
The price-to-earnings ratio (P/E) is the most widely recognized valuation indicator. Using the Gordon growth model, a P/E multiple can be developed. When forecasted inputs are used in the multiple, a justified fundamental P/E multiple is obtained. The expression of…
The Present Value of Growth Opportunities (PVGO)
The value of a stock can be evaluated as the sum of: The value of the company without earnings reinvestment, \((\text{E}_{1}/\text{r})\); plus The present value of growth opportunities (PVGO). $$\text{V}_0= \frac{E_1}{\text{r}}+\text{PVGO}$$ Where: \(\text{E}_{1}=\) Expected earnings at time, \(t = 1\)….
Value of a Bond and its Credit Spread
The arbitrage-free framework is applied for credit analysis of a risky bond, assuming that interest rates are volatile. A binomial interest rate tree is constructed assuming no arbitrage. The tree is then verified if it has been correctly calibrated and…
The Implied Dividend Growth Rate
Different growth rate assumptions may explain the differences between the estimated values of a share and the actual market value. Given the price, the expected dividend, and the required rate of return, the dividend growth rate reflected in the price…
