Questions In Valuation Concepts Flashcards by Alvin Fuertes

The limitation of this approach is that, having too high estimated future earnings could result in choosing an investment that might not pay off in the future- hurting profits.

Discounting Future Earnings Approach

How well did you know this?

Not at all

Perfectly

Which earning value approach use average of the trend of predicted future earnings instead of the average past earnings? pay

Discounted Future Earnings

How well did you know this?

Not at all

Perfectly

What is the interpretation to price to earnings ratio?

“High P/E Ratio indicates high growth expectations or overvaluation so, investors are willing to pay more for each unit of earnings.
Low P/E Ratio indicate an undervalued stock or a company with lower growth prospects. It could also mean poor performance or declining earnings.”

How well did you know this?

Not at all

Perfectly

It shows how much a company pays out in dividends each year relative to its stock price.

Dividend Yield Ratio

How well did you know this?

Not at all

Perfectly

What is the valuation technique used to value a company by comparing that company’s valuation multiples to those of its peers?

Comparable Company Analyses

How well did you know this?

Not at all

Perfectly

True or False. If false, why? In Market Approach, Sales of businesses which closely resemble the business being valued are most commonly used to estimate the pricing multiples.

TRUE.

How well did you know this?

Not at all

Perfectly

True or False: If a business has a high book-to-market value ratio when compared to other firms in the same industry, it means that the firm is more attractive for investors with long-term objectives than short-term.

False, because a high book-to-market value ratio indicates that the company’s book value is greater than its market value, thereby implying liquidating concern, which in turn is not attractive for investors eyeing long-term investments UNLESS you are an activist investor who invests in financially distressed, undervalued firms for future gains.

How well did you know this?

Not at all

Perfectly

How does Capitalizing Past Earnings Approach helps investors?

It helps investors figure out the possible risk and return of acquiring company

How well did you know this?

Not at all

Perfectly

What is the use of the price to earnings ratio from the perspective of the company and investor?

P/E ratios are used by investors and analyst to determine the value of a company’s shares in an apples-to-apples comparison. On the other hand, companies used this in showing to the investors that the company is in growth mode and may justify higher future earnings.

How well did you know this?

Not at all

Perfectly

Refers to estimating company’s value by converting its historical earnings into present value

Capitalizing Past Earnings

How well did you know this?

Not at all

Perfectly

What is the estimated value of a business at the end of a projection period (usually 5-10 years).

Terminal Value

How well did you know this?

Not at all

Perfectly

True or False: The Market Value Approach determines the value of a business by comparing it to similar companies that have been sold or are publicly traded, allowing analysts to estimate a reasonable market price.

TRUE

How well did you know this?

Not at all

Perfectly

True or False. If false, why? Heuristic Pricing Model uses expert opinions of professional teachers.

False. Professional PRACTITIONERS.

How well did you know this?

Not at all

Perfectly

True or False: In the market value approach, the Comparable Company Analysis (CCA) assumes that similar companies will have significantly different valuation multiples due to unique market perceptions.

False. Comparable Company Analysis assumes similar companies have similar valuation multiples, not significantly different ones.

How well did you know this?

Not at all

Perfectly

When can you only use public traded company under market value approach

You can only use publicly traded companies if private company sale data isn’t available, if your company is as large as a public company, if it operates in the same industry as a public company, or if the private company plans to go public.

How well did you know this?

Not at all

Perfectly

What pricing model relies on expert judgment and market experience rather than complex calculations?

Heuristic Pricing Model

How well did you know this?

Not at all

Perfectly

True or False. In Discounting Future Earnings Approach, the discount rate used in this method is one of the most critical inputs. It can either be based on the firm’s weighted average cost of capital or it can be estimated on the basis of a risk premium added to the risk-free interest rate.

TRUE

How well did you know this?

Not at all

Perfectly

True or False: The Heuristic Pricing Model relies on expert opinions, particularly from business intermediaries or brokers, to determine appropriate pricing parameters.

TRUE. The Heuristic Pricing Model is true because it uses expert opinions, like those of brokers, to determine pricing, focusing on professional judgment over just numbers. This approach is particularly useful in complex or niche markets where expert opinion plays a vital role in determining value.

How well did you know this?

Not at all

Perfectly

This method is best used when a business has stable and predictable earnings over time.

Capitalizing Past Earnings Method

How well did you know this?

Not at all

Perfectly

True or False: The market value of a company is trading higher than its book value per share, it is considered to be undervalued.

False, because if the market value of a company is trading higher than its book value per share, it is considered to be overvalued.

How well did you know this?

Not at all

Perfectly

What is the primary purpose of the empirical/statistical approach in valuation?

To analyze sales data, financial performance, and past transactions using research, benchmarking, and trend analysis for evidence-based valuation.

How well did you know this?

Not at all

Perfectly

Give some advantages of market value approach

It is user friendly, it hses actual data and simple to apply

How well did you know this?

Not at all

Perfectly

Give at least 1 difference between empirical/statistical and Heuristic pricing model under market value approach

Empirical uses research and data base processing while Heuristic pricing model uses the opinion of experts.

How well did you know this?

Not at all

Perfectly

It is a financial ratio that determines the appreciation of the market to the value of the company as oppose to the value it reported under its Statment of Financial Position and is used to compare a company’s net asset value to market value

Book-To-Market Value

How well did you know this?

Not at all

Perfectly

What is the Discounted Future Earnings method?

It is a way to estimate a company’s value by predicting its future earnings and adjusting them to their value today using a discount rate.

"Modified True or False. Capitalization of past earnings is a valuation method used to estimate a firm's worth based on earnings forecasts. The capitalization of past earnings method uses these forecasts for the earnings of a firm and the firm's estimated terminal value at a future date, and discounts these back to the present using an appropriate discount rate. "

False - Discounted Future Earnings

What are the 3S in Comparable Company Analysis?

Strategy, Structure, Size

Limitation of Discounting Future Earnings Approach

"The main limitation of discounting future earnings is that it requires making many assumptions."

True or False: Comparable Company Analysis uses tools to enable the comparison between companies given the difference in 3s - Strategy, Structure, and Shares.

False. Strategy, Structure, and Size

What is the Capitalizing Past Earnings Formula?

Capitalization Earnings Approach = Net Present Value / Capitalization Rate

"What is the effect of estimating future earnings too high and low? "

"Estimating too high could result in choosing an investment that might not pay off in the future, hurting profits. Estimating them too low, making an investment appear costly, could result in missed opportunities."

TRUE/FALSE. The Discounted Future Earnings method considers the time value of money when estimating a company's value.

TRUE

What is the crucial financial metrics used by investors?

Price-to-earnings ratio, because it provides valuable insights into a company's market sentiment.

Which method for estimating terminal value does not assume that the firm will be liquidated after the terminal year and instead assumes that cash flows are reinvested and that the firm can grow at a constant rate in perpetuity?

Stable Growth Model

True or False :Small changes in the inputs of the Discounted Future Earnings method do not significantly affect the estimated value of the firm.

FALSE : Small changes in the inputs can significantly affect the estimated value of the firm because the Discounted Future Earnings method relies heavily on forecasts and assumptions — especially the future earnings, terminal value, and discount rate.

What are the two kinds of P/E ratios?

1. Forward Price-to-Earnings and 2. Trailing Price-to-Earnings

As an investor, give some of the metrics that should be considered in the Comparable Company Analysis

EBITDA, Enterprise Value, Debt to Equity, Revenue Growth, Earnings per share and etc.

Give one limitation of Discounting Future Earnings Approach

It requies making assumptions which can lead to overvaluation or undervaluation.

What are the two common methods of Earnings Approach?

Capitalizing Past Earnings and Discounted Future Earnings

How does the Discounted Future Earnings method calculate the value of a business?

"The Discounted Future Earnings method calculates the business value by using the predicted future earnings and dividing them by a capitalization factor to determine their present value."

This describes the relationship between the received per share and the appreciation of the market on the price of the company.

Dividend Yield Ratio

The dividend yield is an estimate of the dividend-only _______ of a stock investment.

Return

The discount rate used in discounted future earnings approach can either be based on the firm's _____ or it can be estimated on the basis of a risk premium added to the risk-free interest rate.

Weighted Average Cost of Capital (WACC)

"Which business valuation method determines a company's worth by comparing it to similar companies with known transaction values? "

Market Value Approach

True or False: The Market Value Approach uses actual data, meaning estimates of value are based on actual transaction prices rather than complex assumptions or judgments. The data can be independently obtained, verified and tested

TRUE

True or False: The mechanics of the market approach involve finding a price multiple of the benchmark, ie. price earnings ratio, EV to EBITDA, price to book value, etc. The price multiple is then multiplied with the relevanr financial metric of business being valued to arrive at a vluation estimate

TRUE

"It is defined as the amount of money invested or raised by issuing shares to shareholders and bondholders, hence the sources are equity and debt."

Market Value of Invested Capital

Which ratio measures a company’s stock price relative to earnings per share?

Price-to-Earnings Ratio

TRUE/FALSE: The price-to-earnings ratio is also sometimes known as the price multiple or the earnings multiple.

TRUE

This method involves determining a business’s value by analyzing its historical earnings and applying a capitalization rate. This approach assumes that past earnings are a good indicator of future performance.

Capitalizing Past Earnings

This describes the relationship between the dividends received per share and the appreciation of the market on the price of the company.

Dividend Yield ratio

Book value per share can be derived by dividing the net book value to the number of outstanding shares available to common and preferred shares.

False. Book value per share (BVPS) is calculated by dividing the net book value of common equity by the number of outstanding common shares not including preferred shares.

"What are the two approaches under Market Value Approach? "

"Empirical/Statistical & Heuristic Pricing Model "

It uses the opinion of experts who are usually the professional practitioners. The best professional group that is doing this is the business intermediaries or brokers.

Heuristic Pricing Model

True or False. According to Stock Price History, stocks with continuous volatility typically attract long-term shareholders who are willing to weather market fluctuations for potential greater returns.

False, Because the question specifically states the opposite. A Stock Price History states "Stocks that are continuously volatile tend to have short term shareholders, which can add extra risk factors for certain investors."

"It follows the concept that the value of the business can be determined by reference to reasonably comparable guideline companies for which transaction values are known."

Market Value Approach

TRUE OR FALSE. Comparable company analysis is only concerned with quantitative factors such as earnings, sales, and EBITDA, without considering any non-quantitative factors such as market sentiment or risk.

FALSE. While comparable company analysis is primarily based on quantitative factors like earnings, sales, and EBITDA, it also considers non-quantitative factors such as market sentiment and company risks.

The method of estimating terminal value that requires figuring the asset's earning power with an appropriate discount rate, then adjusting for the estimated value of outstanding debt.

Liquidation Value Model

Why is it reasonable to use Comparable Company Analysis rather than Discounted Cash Flow or other valuation methods?

Because Comparable Company Analysis is relatively easy to perform and uses widely available data, and it also provides a reasonable valuation range based on market prices, unlike other methods like DCF, which rely on many assumptions.

TRUE OR FALSE: All business valuation methods under the market approach fall within one or more of the following categories. It is either based on statistics/empirical and/or heuristics and/or combination of these methods.

TRUE: Market-based valuation methods rely on statistics/empirical data, heuristics, or a combination of both. They use actual market data and industry rules of thumb to estimate value.

TRUE OR FALSE. Under Book-to-Market Ratio. If the market value of a company is trading higher than its book value per share, it is considered to be overvalued. If the book value is higher than the market value, analysts consider the company to be undervalued.

TRUE

What are the 3S in Comparable Company Analysis?

Strategy, Size, Structure

The heuristic pricing rules method relies on expert judgment and market experience rather than strict mathematical models.

True. The heuristic pricing method is based on expert insights and industry experience rather than purely statistical calculations.

"The idea behind this valuation approach is that the value of the business can be determined by reference to reasonably comparable guideline companies for which transaction values are known."

Comparable transaction Approach

Weighted Average Cost of Capital (WACC) is used as a basis for discounting future earnings rate when valuing a company on segments.

FALSE: WACC is the most common future earnings rate when valuing a company as a whole (Enterprise Value). It reflects the company’s cost of financing (both debt and equity).

Three primary methods for estimating Terminal Value.

Liquidation Value Model, Discounted Cash Flow, Stable Growth Model

"This method involves looking up historical transactions in securities of the business undervaluation from a listed stock exchange."

Prior Transactions Method

True or False: The Market Value Approach is considered "user-friendly" because companies with similar products, geographic locations, business risks, and financial characteristics should have similar pricing characteristics.

TRUE

What metric is used to assess how much investors are willing to pay for each peso of a company's earnings?

"Price-to-Earnings (P/E) Ratio "

It is formerly known as "Comparative Transaction Method".

Comparative private company sale data

TRUE/FALSE: Capitalization Past Earnings Approach can be computed by Net Present Value divided by Total Capital

FALSE: Capitalization Past Earnings Approach = Net Present Value / Capitalization Rate

Give 1 disadvantage of Market Value Approach.

It is a costly approach.

"A terminal value estimation method which assumes that cash flows are reinvested and that the firm can grow at a constant rate in perpetuity."

Stable Growth Model

Give one factor considered in determining the value in Comparable Company Analysis.

Comparators must be at least with the similar operation or industry.

This is used to determine the appreciation of the market to the value of the company as compared to the value it reported under its Statement of Financial Position.

Book-to-Market Ratio

It is an approach that generally uses reasearch and database processing in order to come up with conclusion and recommendation.

Empirical / Statistical

What is the main difference between the Capitalizing Past Earnings approach and the Discounting Future Earnings approach in business valuation?

Capitalizing Past Earnings is based on historical earnings and applies a capitalization factor, while Discounting Future Earnings forecasts future earnings and discounts them to present value.

Questions In Valuation Concepts Flashcards

(78 cards)