Present Value Models
Equity valuation models and techniques are used to achieve the following:
A share’s market price reflects investors’ expectations about a company’s future performance. An analyst can evaluate these expectations relative to their own and/or use them as a benchmark for evaluating other companies.
Valuation analysis is used to assess the impact of corporate events like mergers, acquisitions, divestitures, and spin-offs on a company’s cash flows and consequently the value of its securities.
Third parties may be required to establish if the value paid for the firm is fair on corporate events like mergers. This is done by using valuation models.
Companies use valuation models to evaluate their strategies’ impact on shareholders’ wealth.
Valuation models provide a basis for discussion between shareholders, management, and analysts on corporate issues that affect a company’s value.
Valuation models are used to value companies that are not publicly traded for transactional purposes (e.g., acquisition of such companies) or tax purposes (e.g., the taxation of estates).
Valuation models are used to estimate the value of share-based executive compensation, e.g., restricted stock grants.
Which of the following is least likely an application of equity valuation?
- The valuation of business strategies and models.
- Stock selection.
- A merger.
The correct answer is C.
The question asks which is not an application of equity valuation. A merger is not an application of equity valuation. Evaluation of the impact of corporate events like mergers is an application of equity valuation.
A is incorrect. Evaluation of business strategies and models on the impact of shareholder wealth is an application of equity valuation techniques.
B is incorrect. Stock selection is an application of equity valuation techniques. These techniques are used to determine whether a security is underpriced, fairly priced, or overpriced.
Reading 22: Equity Valuation: Applications and Processes
LOS 22 (d) Describe applications of equity valuation.
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