Question

Suppose I value an company at $20 per share by using analyst-consensus forecasts of earnings per share and dividends per share for the next three years, and the company's current common shareholder's equity. I assume a cost of equity of 8% and terminal growth rate of 6% in my valuation. The market price is $40. list and explain four different things might have caused me to obtain a different valuation than the market.

Answer 1

Here the market price is higher than the estimated value so the difference can be because of the

· You might be using a higher discount rate but the market believes the security to be less risky.

· The growth rate in your assumption might be underestimated and according to market security will grow at higher rates.

· The EPS and dividend might be underestimated and because of which you are getting lower estimate whereas the market is valuing the shares at higher rates.

· The company return on equity might be higher than your estimation and the so the dividend will eventually be larger.