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Summary of the Value Based Management course slides
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Summary of the Value Based Management course slides
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VBM summaryInhoudsopgave
Value and price.....................................................................................................................................................2
The Capital Asset Pricing Model (CAPM)..............................................................................................................2
Efficient capital markets.......................................................................................................................................2
Dividend discount model......................................................................................................................................3
Discounted Cash Flow Approach..........................................................................................................................4
Economic Profit Approach....................................................................................................................................5
WACC....................................................................................................................................................................5
Performance & Valuation in Practice...................................................................................................................6
Performance (competitive advantage).................................................................................................................7
Continuing value...................................................................................................................................................8
Cost of capital.......................................................................................................................................................9
Reorganizing financials......................................................................................................................................11
Multiples.............................................................................................................................................................13
Validating the valuation.....................................................................................................................................13
Value-based Management.................................................................................................................................14
,Value and price
The value of a security is determined by its competitive market price.
Portfolios of equivalent securities must trade at the same price with the same
expected rate of return.
The value of a security is the price of an equivalent security and the present value of
the cash flow the security is expected to generate using the expected return on an
equivalent security as a discount rate.
The Capital Asset Pricing Model (CAPM)
E(ri) = expected return of the asset.
Rf = risk-free rate.
β = beta of security i.
E(rm) = expected return of a market portfolio of risky assets.
In this scenario, all investors invest in the market portfolio of risky and risk-free assets.
Besides, investors are compensated for the time value of money and for bearing systematic
risk.
The price of an asset is the present value of the payoffs the asset is expected to generate
using the above-expected return as a discount rate.
Efficient capital markets
In this kind of market the competition among investors tends to eliminate all positive-net
present value trading opportunities given all information that is available to investors.
Securities are said to be fairly prices and investors are said to earn a fair return on their
investments.
Koller et al (2020) determine the value of a business from the perspective of a long-term, a
passive investor in equities and the risk-free asset as the value of the cash flows the assets of
the business are expected to generate using the expected return of the next-best investment
opportunity that is available in the market as a discount rate.
This value may differ from the market price because investors may have different
- investment horizons,
- investment universes,
- beliefs about the future prospects of the company and
- degrees of control.
, Dividend discount model
The price of a share is:
P = price per share
D = dividend per share
r = (opportunity) cost of equity capital
g = growth rate of dividends per share
With constant growth of dividends per share forever the share price is:
Earnings evolve as:
And the value is written as:
Higher growth increases the share price, if the return on retained earnings exceeds the cost
of equity.
Kollet et al (2020) determine the enterprise value of a business as the value of the free cash
flows using the WACC as a discount rate. Then the excess cash needs to be added and then
the debt gets subtracted to obtain the equity value. With this it is important to include any
effects of financing choices in the cost of capital or the cash flows the assets are expected to
generate.
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