●The best time to estimate the value of
an assets or a company is the value of
the return that it will yield or the
income.
INCOME BASED MODEL
- a method used to determine the value
of an asset, business, or investment
based on its ability to generate future
income.
- used in business valuation, real estate
appraisal and investment analysis
ADVANTAGES:
[Link] the actual earning potential
of the business or asset
[Link] for investment decisions and
comparing profitability
[Link] be applied across industries and
asset types
DISADVANTAGES
1. Requires accurate future cash flow
projections
2. Sensitive to discount rate and
growth assumptions
3. Market conditions and external
factors can impact estimates.
INCOME
- the amount of money that the
company will generate over the period
of time and will reduced by
the cost.
2 INCOME THEORIES
[Link] Irrelevance theory
-introduced by Franco Modigliani and
Merton Miller
- supports the belief that the stock
prices are not reflected by dividends or
the return on the stocks but more on
ability and sustainability of the asset
of the company.
-argues that a company's dividend
policy does not affect its stock price or
value.
- Investors are more concerned with the
company's ability to generate profits
and grow its assets.
[Link] in the hand theory
- also known as dividend relevance
theory
-developed by Myron Gordon and
John Lintner
- believes that the dividend or capital
gains has an impact on the price of the
stocks
- argues that dividends are relevant to
stock prices.
- Investors prefer the certainty of
dividends over potential future capital
gains because dividends provide an
immediate return, reducing risk.
Factors to be considered to properly
value the asset based on Income
1. Earning accretion or dilution
-the additional value inputted in the
calculation that would account for the
increase of value of the firm due to
quantifiable attributes (positive
attributes).Earning dilution will reduce
if there is future negative attributes or
circumstances that will negatively affect
the firm.
- used in mergers and acquisitions to
analyze how a deal affects the
acquiring company's earnings per
share.
Earnings Accretion
- occurs when a transaction increases
the acquiring company's EPS.
-happens when the acquired company
generates more earnings than the cost
of acquisition.
Earnings Dilution
- occurs when a transaction reduces
the acquiring company's EPS, often
due to high acquisition costs, debt
financing or underperformance.
●Investors prefer accretive deals
because they indicate profitability,
while dilutive deals may raise concerns
about overvaluation or inefficiency.
[Link] premium control
- the additional amount a buyer is
willing to pay to gain controlling interest
in a company. This
premium is paid because controlling
shareholders have more power over
decision making, business strategy and
cash flow.
- the amount that is added to the value
of the firm in order to gain control of it.
-added premium ensures that the seller
gives up control, and it compensates for
the buyer's added risk.
3. Precedent transactions
-involve analyzing past merger and
acquisition deals in the same industry
to estimate the fair value of a company.
Investors and analysts use these
comparisons to determine valuation
benchmarks.
- previous deals similar to the
investment being evaluated.
- helps in negotiating a fair deal based
on historical data rather than
speculation.
● To estimate a fair price, analysts look
at similar past deals where large tech
firms acquired small software
companies .
Computations of cost control
1. WeightedAverage Cost of
Capital(WACC)
-can be used in determining the
minimum required
return.
-can be used to determine the
appropriate cost of capital by weighing
the portion of the asset funded through
equity and debt.
2. Capital Asset Pricing
Model( CAPM)
- calculating the weighted average cost
of capital
Economic Value Added
-most convetional way to determine the
value of the asset
- quickly measures the ability of the firm
to support its cost of capital using its
earning
-it is the excess of the company
earnings after deducting the cost of
capital.
Elements of E.V.A
[Link] of earnings or
returns
[Link] cost of capital
Capitalization of Earning Method
-this method used anticipated earnings
divided by the capitalization rate
● the value of the company can also be
associated with the anticipated returns
or income based on the historical
earnings and expected earnings.
Discounted Cash Flow Method
-most popular method of determining
the value
- used by investors, valuators analyst
due to sophisticated approach in
determining the corporate value.
- this method is more verifiable since it
allows for more detailed approach in
valuation.
- it calculates the equity value by
determining the present value of the
projected net casb flow of the firm
- the net cash flow serve as
representative value for the cash flow
beyond the projection.
Key Components of DCF
[Link] Cash Flow
- the estimate cash inflows a business
or asset is expected to generate
overtime
2. Discount Rate
-the rate used to discount future cash
flowws to present value,often based on
the Weighted Average Cost of Capital
[Link] Value
- the estimated value of the busiess at
the end of the forecast period assuming
it continues
operations beyond that point
[Link] Value Calculation
- the sum of discounted future cash
flows and the discounted terminal
value.
Advantages of DCF
( Discounted Cash Flow Method )
1. Provides an intrinsic value based on
financial performance rather than
market speculation
[Link] for evaluating long tern
investment decisions
[Link] the time value of money
Disadvantages of DCF
[Link] sensitive to assumptions(ex.
Growth rates, discount rates and cash
flow projections)
[Link] and required accurate
financial forecasting
[Link] not be suitable for valuing early
stage companies with uncertain cash
flows
Net cash flow to the firm
-refers to the cash flow available to the
parties who supplied capital ex.
Lenders and shareholder after paying
all operating expenses, including taxes
and investing in capital expenditures
and working capital
as required by the business.
●Net cash flow only capture items that
are directly related to the operating and
investing activities of the business.
Net cash flow
- refer to the amount of cash available
for distribution to both debt and equity
claims of the business or assets
- a cash flow generated form operating
activities of the business which is
intended to pay required return of fund
provider.
NET CASH FLOW TO THE FIRM
[Link] from net income
[Link] statement of the cash flow
3. From earnings before interest,
taxes, depreciation and amortization
(EBITDA)
Based from net income
Net - Income Available to common
Shareholders
- this served as basic measure of firm's
profitability. This is the amount left for
the common shareholders after
deducting all costs, expenses,
depreciation etc.
Non Cash Charges
-items that are included in the
computation of net income.
Examples of non cash charges
[Link] and amortization
[Link] charges
[Link] for doubtful accounts
[Link] tax interest expense interest
expense
5. Working capital adjustment
6. Investment in fix capital
FROM STATEMENT OF CASH FLOW
3 MAJOR SECTIONS
[Link] flow from operating activities
[Link] flow from investing activities
[Link] flow from financing activities
EBITDA
-pertains to income before deducting
interest, taxes and depreciation and
amortization expenses, net of taxes
