Download - Valuation DDM
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Valuation
DDM
Sageraj Bariya
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Valuing - Pure Theory example only
think* within the FACTs
There is a building with 4 floors (ground floor
parking only)
Each floor has 2 flats
Each flat can yield rent of Rs10,000 per monthfor rest of the life
Life of the building is 10years, post which it
would be demolished* Dont imagine what is not explicitly mentioned
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Theoretical value of building
No of Floors 4
No of room on each floor 2
Rent per month 10,000
No of month 12
Life of Building 10
Value (Rs) 96,00,000
Now state Practical Problems with thisapproach
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Practical
Would you buy building if I offered it to you
for Rs1cr?
Would you buy building if I offered it to you
for Rs50lac?
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Now Practical - Problems with
approach
What is the worth of Rs96lac in todays value?
Remember the concept of Principle & Interest
A = P x (1 + r)^ t
Where A Final amount, P =Principle , r = Rate of
Interest and t = time
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What is A?
If P = 10,000
R = 9%
T = 1
A = 10,000 X 9/100 x 1 = 900, i.e Rs10,900
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Similarly can you tell me what is P
If A = 20,000
R = 9%
T = 1
Solution 20,000 = P x (1 + 9/100)
P = 18,349
Apply this to our Building example and figurecurrent value of Rs96lac discounting at 9%
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Our case
In our case we have
yearly flow of Rs9.6lac9.6
+9.6
+9.6 . 9.6
(1+9%)^1 (1+9%)^2 (1+9%)^3 (1+9%)^10
Yrly flow (Rs) PV Rate Yr
9.6 9 9 1
9.6 8 9 2
9.6 7 9 3
9.6 7 9 4
9.6 6 9 5
9.6 6 9 6
9.6 5 9 7
9.6 5 9 89.6 4 9 9
9.6 4 9 10
96 62
Present worth of
Future Rs96lac
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Problem
Would you buy land for 50,000, construct for
300,000, if the house is expected to sell one
year down the line for 400,000? Disc rate =
10%.
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Solution
Total Construction Cost = 50,000 + 300,000 =Rs350,000
Discounting rate 10%
Meaning value of Rs350,000 one year hencewould be Rs385,000.
While sale value of house is Rs400,000, whichin todays PV is Rs363,636. while we are doing
it for much more cheaper Rs350,000 only. Yield on Investments = 14% (4/3.5-1) x 100
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A machine costs Rs 380,000 and produces
cash flows (in 000s) of
50,57,75,80,85,92,92,80,68,50 every year. If
the cost of capital is 12%, what is the NPV?
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solution
Cash inflow 12% Yr
50000.00 44,643 1.00
57000.00 45,440 2.00
75000.00 53,384 3.00
80000.00 50,841 4.00
85000.00 48,231 5.00
92000.00 46,610 6.00
92000.00 41,616 7.00
80000.00 32,311 8.00
68000.00 24,521 9.00
50000.00 16,099 10.00Total 4,03,696
Cash outflow 3,80,000
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What is the PV of the following perpetuities?
100,000 Rs at discount rate of 10%
Rs 350,000 @ discount rate of 17.5%
Rs 200,000 growing at 6% p.a. @ discount rate
of 12%
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Solution
1,00,000 3,50,000 20,000
10% 18% 12%
10,00,000 20,00,000 1,66,667
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How much would Rs 15,000 per annum
savings amount to at the end of 10 years if the
interest rate is 10%?
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yr amount R (%) A
1.00 15000.00 10% 16,500
2.00 15000.00 10% 18,150
3.00 15000.00 10% 19,965
4.00 15000.00 10% 21,9625.00 15000.00 10% 24,158
6.00 15000.00 10% 26,573
7.00 15000.00 10% 29,231
8.00 15000.00 10% 32,154
9.00 15000.00 10% 35,369
10.00 15000.00 10% 38,9061,50,000 2,62,968
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As a lucky draw winner, you have a range of
prizes to choose from:
Rs 100,000 today
Rs 180,000 at the end of 5 years Rs 11,400 a year forever
Rs 19,000 for 10 years
Rs 6,500 next year, increasing at 5% p.a. forever
Which one would you choose?
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Solution
Opportunity Cost - 9%
Cash in Hand 180k @5yrs 11,400 lifetime 19k@10yrs
6.5k forever
with 5% PA
1,00,000 1,80,000 11,400 19,000 6500.00
1,16,988 1,26,667 17,431 1.00 1,62,500
15,992 2.0014,671 3.00
13,460 4.00
12,349 5.00
11,329 6.00
10,394 7.00
9,535 8.00
8,748 9.00
8,026 10.00
1,21,935
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Valuation - DDM
What cashflow does shareholder have in case of a Company?
Valuing Company = Valuing all the likely dividend over the life
time of the company
Dividend Discount Model Dividend is all the income
shareholder gets from company hence use. A procedure for valuing the price of a stock by using
predicted dividends and discounting them back to present
value. The idea is that if the value obtained from the DDM is
higher than what the shares are currently trading at, then the
stock is undervalued
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Formula for valuing Fixed dividend paying
company
Alternatively if you can forecast individualdividend for each year
Div
R%
Div 1+
Div 2+
Div 3 . Div n
(1+R%)^1 (1+R%)^2 (1+R%)^3 (1+R%)^N
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Can you value a company that pays fixeddividend of Rs2, discounting it at 10%
Rs20
Can you value a company that pays fixeddividend of Rs5, discounting it at 8%
Rs62.5
Can you value a company that pays fixeddividend of Rs3.5, discounting it at 12%
Rs29.2
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What if company grows?
Company is legal entity and is suppose to haveongoing life.
G refers to long time average / sustainablegrowth meaning average out volatile early highgrowth phase then slow.
Remember Product Life Cycle Concept?
Div 1
(R-G%)
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Problem
Zen Ltd declared dividend of Rs10 per share
last year, which is likely to increase by 5% in
next year. Determine share price if Cost of
Equity is 15%.
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Solution
= 10x(1+5%) / (15%-5%)
= 10.5/10%
= Rs105
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What if
Companys usually dont follow linear growth
pathwhat to do in that case?
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How long period.?
2-Stage DDM
Explicitly forecast dividend for few years and
then use last formula
Div 1
+
Div 2
+
Div 3
. {(Div n)/(R% -G%)}
(1+R%)^1 (1+R%)^2 (1+R%)^3 (1+R%)^N
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Problem
If RIL is expected to pay the following
dividends, and then grow indefinitely at 4.5%
(assuming a discount rate of 14.50%), what
would its stock value be? 1.25, 2.75, 1.5, 2.8, 3.2
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solution
First we consider the price of the stock at time
five (at end of 5th year).
P D g
k gs
5
5 1 320 1 00450145 0045
3344010
44
. ( . ). .
..
$33.
Dividend in 5th yr is Rs3.2 & is likely to grow by 4.5% indefinitely
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0 1 2 3 4 5
$1.25 $2.75 $1.50 $2.80 $36.64
14.5%
$ 1.09
$ 2.10
$ 1.00
$ 1.63
$18.62
$24.44 = Present Value
(33.44 + 3.2) /
(1+14.5)^5
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Year Div R G PV Year Div R G PV
1 1.25 14.50% 1.09 1 1.25 14.50% 1.09
2 2.75 14.50% 2.10 2 2.75 14.50% 2.10
3 1.50 14.50% 1.00 3 1.50 14.50% 1.00
4 2.80 14.50% 1.63 4 2.80 14.50% 1.63
5 3.20 14.50% 1.63 5 3.20 14.50% 1.63
3.34 33.44 4.50% 18.62 3.34 33.44 4.50% 16.99
24.44 24.443.34/(14.5%-4.5%)
(3.2+33.44)/(1+14.5%)^5
33.44/(1+14.5%)^5
1.09+2.10+1.00+1
.63+18.62 1.09+2.10+1.00+1.63
+1.63+18.62
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Problem
A companys likely dividend over next 4 yrs as
followed
Yr-1 = Rs0.75, Yr-2 = 1.5, Yr-3=1.5, Yr-4 = 2 and
is likely to grow at CAGR of 5% there afterindefinitely.
Assume R 14%, arrive fair value of the Stock
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Solution Rs17.22
Year Div R G PV
1 0.8 14.00% 0.66
2 1.5 14.00% 1.15
3 1.5 14.00% 1.01
4 2.0 14.00% 1.18
5 2.10 14.00% 5.00% 1.09
Terminal Value at the end of 5th yr 23.33 12.12
17.22
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Problem
D P S 2
R 16%
Growth 0% to 10%
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Now you know why stock prices
changes everyday
12.5 13.314.3 15.4
16.718.2 20.0
22.225.0
28.6
33.3
-
5.0
10.0
15.0
20.0
25.0
30.0
35.0
0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%
Stock Value
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Value your company on DDM basis
Take dividend amount
Take discount & growth rate as you think is fit