Question #36
Reading: Reading 22 Market-Based Valuation - Price and Enterprise Value Multiples
PDF File: Reading 22 Market-Based Valuation - Price and Enterprise Value Multiples.pdf
Page: 14
Status: Incorrect
Correct Answer: A
Your Answer: B
Part of Context Group: Q36-39
First in Group
Shared Context
Question
Using justified trailing price-to-cash flow ratio and dividend yield based on forecasted fundamentals, Yantra appears to be:
Answer Choices:
A. undervalued
B. overvalued
C. the results are mixed
Explanation
=
P0
S0
PM×(1-b)×(1+g)
(r-g)
=
= 1.08
P0
S0
0.058×0.40×1.072
(0.095−0.072)
=
=
= 2.11
P0
B0
(ROE-g)
(r-g)
(0.12−0.072)
(0.095−0.072)
P0=
=
= 35.42
D0×(1+g)
(r-g)
0.76×(1+0.072)
(0.095−0.072)
The price-to-cash flow multiple based on market data is 44.56 / 1.05 = 42.44.
The dividend yield flow multiple based on market data is 0.76 / 44.56 = 1.7%.
The intrinsic value of a company based on FCFE and the Gordon Growth Model is:
To obtain the trailing justified price-to-cash flow; divide both sides of the equation by
FCFE0. We already have g and r inputs from prior computations:
Thus, the company appears undervalued based on this criterion as its market multiple of
42.44 is below the justified multiple of 46.65.
Reciprocating the Gordon Growth Model, we obtain the formula for justified trailing
dividend yield:
This is the reciprocal of the above P/CF ratio, so a shortcut computation would be:
justified D/P = 1 / 46.65 = 2.1%
The current dividend yield of 1.7% is below the justified dividend yield of 2.1% so, based
on this criterion, the company appears overvalued (note that when price is on the
numerator high multiple = undervalued).