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Selecting the Right Valuation Model

The document outlines a program for selecting the appropriate valuation model based on various financial inputs, including earnings, debt ratios, and dividend policies. It provides a structured approach to assess whether earnings are positive or negative and suggests using a Discounted Cash Flow (DCF) model for firms with certain characteristics. The output specifies the type of model, level of earnings, cash flows to discount, growth period, and growth pattern based on the provided data.

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6 views7 pages

Selecting the Right Valuation Model

The document outlines a program for selecting the appropriate valuation model based on various financial inputs, including earnings, debt ratios, and dividend policies. It provides a structured approach to assess whether earnings are positive or negative and suggests using a Discounted Cash Flow (DCF) model for firms with certain characteristics. The output specifies the type of model, level of earnings, cash flows to discount, growth period, and growth pattern based on the provided data.

Uploaded by

av23948012
Copyright
© All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as XLS, PDF, TXT or read online on Scribd

Model Choice

CHOOSING THE RIGHT VALUATION MODEL

This program is designed to help in choosing the right model


use for any occassion.

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Model Choice

Inputs to the model


Level of Earnings (in currency)
Are your earnings positive ? Yes (Yes or No)

If the earnings are positive and normal, please enter the following:
What is the expected inflation rate in the econ 3.00% (in percent)
What is the expected real growth rate in the e 2.00% (in percent)

What is the expected growth rate in earnings (revenues) for this 15.00%
Does this firm have a significant and sustainable advantage ove Yes
Differential Advantages: High growth comes from a firm earning excess returns on its projects,
possessed by the firm over its competitors. This differential advantage can be legal (as is the case with lega
or a strong brand name (as is the case with many consumer product firms) or economies of scale. The ques
the existing differential advantage but also to the future.

If the earnings are negative, please enter the following:


Are the earnings negative because the firm is in a cyclical business ?
Are the earnings negative because of a one-time or temporary occurrence?
Are the earnings negative because the firm has too much debt?
If yes, is there a strong likelihood of bankruptcy?
Are the earnings negative because the firm is just starting up?
Financial Leverage
What is the current debt ratio (in market value terms) ? 4.00%
Is this debt ratio expected to change significantly ? Yes

Dividend Policy
What did the firm pay out as dividends in the current year? $100.00
Can you estimate capital expenditures and working capital req Yes
Enter the following inputs (from the current year) for computing FCFE
Net Income (NI) $200.00
Depreciation and Amortization $50.00
Capital Spending (Including acquisitions) $100.00

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Model Choice

∆ Non-cash Working Capital (∆WC) $25.00

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Model Choice

FCFE = NI - (Capital Spending - Depreciation) *(1- Debt Ratio) - ∆ WC (1-Debt Ratio)

OUTPUT FROM THE MODEL


Based upon the inputs you have entered, the right valuation model for this firm is:
Type of Model (DCF Model, Option Pricing Model): Discounted CF Mo
Level of Earnings to use in model (Current, Normalized): Current Earnings
Cashflows that should be discounted (Dividends, FCFE, FCFF) : FCFF (Value firm)
Length of Growth Period (10 or more, 5 to 10, less than 5) 10 or more years
Appropriate Growth Pattern (Stable, 2 stage, 3 stage): Three-stage Grow

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Model Choice

ALUATION MODEL

hoosing the right model to


ssion.

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Model Choice

del

(in percent)
(Yes or No)
excess returns on its projects, which in turn comes from some differential advantage
n be legal (as is the case with legal monopolies like telecom), or technological,
s) or economies of scale. The question that is being asked relates not just to

(Yes or No)
(Yes or No)
(Yes or No)
(Yes or No)
(Yes or No)

(in percent)
(Yes or No)

(in currency)
(Yes or No)

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Model Choice

$128.00

! If option pricing model, first do a DCF valuation

! In an n-stage model, you will estimate target operating margins (if valuing the firm)
or net margins (if valuing equity) and revenue growth each year.

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