Question

__________________ is driven by fundamentals, i.e. cash flow, growth and risk while ______________ is built upon comparing an asset to what investor are paying for similar assets in public markets or M&A transactions.

	1) Intrinsic value; Contingent value
	2) Intrinsic value; Relative value
	3) Relative value; Intrinsic value
	4) Relative value; Contingent value

You are seeking to determine the cost of equity for a publicly traded company and are given the following information: Risk free rate of 5.0%, Beta of 1.10x, equity risk premium of 4.0%. What is the cost of equity?

	9.0%
	9.4%
	9.5%
	9.9%

Gazmotron International reported net income this past year of $420 million on book value of $2,950. The company paid out $200 million in dividends.

Using the above information, what was the return on equity (ROE) and the retention ratio?

	ROE = 6.8%, Retention ratio = 52.4%
	ROE = 6.8%, Retention ratio = 47.6%
	ROE = 14,2%, Retention ratio = 52.4%
	ROE = 14,2%, Retention ratio = 47.6%

Gazmotron International reported net income this past year of $420 million on book value of $2,950. The company paid out $200 million in dividends.'

What is the expected growth rate? What would it be if the company decided not to pay any dividends?

	3,6%, 6.8%
	3.6%, 14.2%
	7.4%, 14.2%
	14.2%, 10%

1c.Explain two potential errors that can dramatically impact the results of your DCF valuation and how you might approach minimizing errors.

Answer 1

1. 2 is the correct answer. Intrinsic value, relative value.
2. Return on equity = net income/ book value

= 420/2950*100 = 14.2%

Retention ratio = net income - dividends

                                     Net income

= 420 – 200

        420

= 52.4%

Option c is the correct answer.

1. Growth rate = net income – dividend

                                Book value

                  = 420 – 200

                        2950

                = 7.4%

When no dividend = 420/2950 = 14.2%

Option c is the correct answer.

1. Errors in dcf valuation:

• Forecast horizon is too short.
• Uneconomic continuing value
• Cost of capital
• Mismatch between assumed investment & earnings growth
• Improper reflection of other liabilities
• Double accounting

How errors are minimized:

The investors must ensure that models are economically sound & transparent. The investor must be able to model the cash flows intelligently & identify variant perception