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Lecture Equity asset valuation - Chapter 3: Discounted dividend valuation 

In this chapter, we assume that the appropriate measure of future equity cash flows is dividends. We will use dividend discount models (DDMs) and the discount rates discussed in Chapter 2 to determine the common stock value. The topics discussed in this chapter are: An overview of present value models, the general form of the DDM, the Gordon growth model, multistage dividend discount models, and the determinants of dividend growth rates. | Discounted Dividend Valuation Presenter Venue Date 1 Common stock represents an ownership interest in a company and an equity claim on the firm’s future cash flows. The value of common stock is the present value of the future cash flows. This chapter is the first of several to use discounted cash flow (DCF) models for stock valuation. In this chapter, we assume that the appropriate measure of future equity cash flows is dividends. We will use dividend discount models (DDMs) and the discount rates discussed in Chapter 2 to determine the common stock value. The topics discussed in this chapter are an overview of present value models, the general form of the DDM, the Gordon growth model, multistage dividend discount models, and the determinants of dividend growth rates. DISCLAIMER: This presentation is NOT a substitute for the CFA Program curriculum. Candidates should not view this material as reflecting what will be required of them on the CFA exam. Discounted Cash Flow Models 2 LOS: . | Discounted Dividend Valuation Presenter Venue Date 1 Common stock represents an ownership interest in a company and an equity claim on the firm’s future cash flows. The value of common stock is the present value of the future cash flows. This chapter is the first of several to use discounted cash flow (DCF) models for stock valuation. In this chapter, we assume that the appropriate measure of future equity cash flows is dividends. We will use dividend discount models (DDMs) and the discount rates discussed in Chapter 2 to determine the common stock value. The topics discussed in this chapter are an overview of present value models, the general form of the DDM, the Gordon growth model, multistage dividend discount models, and the determinants of dividend growth rates. DISCLAIMER: This presentation is NOT a substitute for the CFA Program curriculum. Candidates should not view this material as reflecting what will be required of them on the CFA exam. Discounted Cash Flow Models 2 LOS: Compare and contrast dividends, free cash flow, and residual income as measures of cash flow in discounted cash flow valuation, and identify the investment situations for which each measure is suitable. Pages 85 – 93 When valuing securities, we must discount the future cash flows to today’s present value. Discounting equity is more difficult than valuing bonds because future equity cash flows are less certain. To value equity, we will use three different definitions of future equity cash flows. The emphasis in this chapter is dividends. In later chapters, we also examine free cash flows and residual income. In the dividend discount model (DDM), dividends are the relevant cash flows. The rationale behind the DDM is that the cash flows are the cash flows equity investors will receive in the future. Note, however, that some firms do not pay dividends and other firms reinvest a substantial portion of earnings back in the firm. The argument for using the DDM is that sooner or later, all firms