WGU d366 study questions section 1,2&3,
Financial Statement Analysis for Valuation, |
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Which of these situations cause implementation problems when using the residual
income valuation model? Choose two answers.
The book value of equity is negative.
Foreign currency exchange rates devalue the U.S. dollar
What is one disadvantage to using market-based valuation techniques, as compared
to other valuation methods?
Market multiples only work when comparison companies are similar.
When companies have different business lines, the multiples don't differentiate well
enough to be meaningful.
What is one advantage of using valuation multiples?
They are easy to use compared to other valuation methods.
Multiples are simple and easy for most analysts to use.
What are the fundamental determinants of firm value?
Earnings, cash flows, dividends, growth, and risk
How are market multiple valuation calculations used to give an advantage to
investors?
By using the relative value of a company's calculation compared to other companies
within the same industry to gauge performance
What does the market price for a share of common equity represent?
The price of a stock as agreed upon by a buyer and a seller
Market price indicates the point of equilibrium that occurs when supply and demand are
balanced.
What is the advantage of reverse engineering of a market-based valuation
calculation?
,The growth rate assumed by the current market price can be calculated
How is the market-to-book ratio calculated?
Market value divided by the book value of common equity
Aliah Company has the following financial information available to investors:
Price per share$80Market cap$75,000,000Total assets$35,000,000Total
liabilities$25,000,000
What is Aliah Company's book value?
$10,000,000
Kretsmart has the following financial information available to its investors:
Price per share$50Market cap$35,000,000Total assets$20,000,000Total
liabilities$15,000,000
What is Kretsmart's market-to-book ratio?
7
Which is an economic reason why value-book (VB) and market-book (MB) ratios may
differ from a calculated value of 1.00?
the risk of a company increases the equity cost of capital
A company's risk increases the equity cost of capital.
Synesthor and Sparkit are companies operating in the same industry. Recently, the
market-to-book ratio was calculated for each company, with the value for Synesthor
being higher than the value for Sparkit.
Which condition explains this difference?
Synesthor and Sparkit use different accounting procedures.
When comparing PE ratios across companies, one must consider the impact of the
companies' uses of different accounting methods and be sure that the earnings
numbers in the denominators are internally consistent across the companies.
Which conclusions can be drawn from the derivation of the market-to-book valuation
model? Choose two answers.
Growth in book value itself does not equate to a higher market-to-book value.
A higher growth value than the industry average will lead to a higher market-to-book
value.
,What is the purpose for using the market multiple price-earnings (PE) ratio of a
comparable firm?
To develop a valuation for a company that is not publicly traded
What is a factor that causes price-earnings (PE) ratios to differ from firm to firm?
Profitability
Profitability directly affects net income, which is used to determine the return on
common equity (ROCE). Firms with a higher ROCE will have a higher competitive
advantage than firms with a lower ROCE, which can lead to a higher multiple (PE ratio).
An investor would like to know the dollar amount that they can expect to invest in a
company to receive $1 of the company's earnings.
Which metric should the investor use?
Price-earnings (PE) ratio
What is an advantage of using price-earnings (PE) ratios to value a company?
PE ratios are easy to compute
A company has a total market value of $75 million. Its current net income is $10 per
share, and it has 500,000 shares outstanding.
What is the price-earnings (PE) ratio?
15.0
Company A and Company B compete in the same industry. Company A is publicly
traded, while Company B is privately held. The following financial information is
available:
Company A earnings$125,000Company A number of shares42,000Company A market
price per share$53.50Company B earnings$275,000
Using the price-earnings ratio, and rounding each intermediate calculation to two
decimal places, what is the market value of Company B?
$1,021,250
What are the free cash flows used in the free cash-flow-based valuation model?
Cash flows into the firm that do not need to be used to pay debt holders, make needed
investments, or pay preferred stock dividends
What is one of the primary benefits of valuing a company using free cash flows?
, Cash is commonly used to measure value
Rusty Robotech has the following information available from its statement of cash
flows.
Cash flow from operations$950,000Cash paid for interest on debt$32,000Cash paid to
reduce accounts payable$15,000Cash paid to retire bonds payable$150,000Cash
received from customers in advance$24,000Cash paid for preferred stock
dividends$60,000Cash paid for new equipment$120,000Cash paid for common stock
dividends$180,000Cash received from the sale of land$46,000Cash dividend received
from stock investment$13,000
What is the amount of the free cash flows available to common shareholders?
$662,000
How does a company treat depreciation when starting from a set of financial
statements to calculate free cash flows to the company?
It adds depreciation expense to earnings before interest and taxes on the income
statement.
Since depreciation is a non-cash expense, and it has been subtracted to get earnings
before interest and taxes, it needs to be added back to negate its effect.
Corollary Marketing has projected the following free cash flows (FCF) to common
equity at the end of 2022. Additional information on interest and growth rates is
included.
FCF - Year 2023$32,300FCF - Year 2027$42,600FCF - Year 2024$35,000Growth rate
beyond 20273%FCF - Year 2025$37,200Required return on equity capital8%FCF - Year
2026$40,100
What is the present value of the common equity at the end of 2022 (rounded to the
nearest dollar)?
$745,166
This is calculated by first determining the terminal value at the end of 2027: ($42,600 *
103%)/(8%-3%) = $877,560. Then, calculate the PV of each cash flow: 2023 - N=1, I=8%,
PMT=0, FV=32,300, solve for PV=$29,907; 2024 - N=2, I=8%, PMT=0, FV=35,000, solve
for PV=30,007; 2025 - N=3, I=8%, PMT=0, FV=37,200, solve for PV=29,531; 2026 - N=4,
I=8%, PMT=0, FV=40,100, solve for PV=29,475; 2027 - N=5, I=8%, PMT=0, FV=42,600,
solve for PV=28,993; terminal value - N=5, I=8%, PMT=0, FV=877,560, solve for
PV=597,253. Finally, sum the PVs: $29, 907 + $30,007 + $29,531 + $29,475 + $28,993 +
$597,253 = $745,166.
