Question

1. Offer some reasons that the intrinsic value that you might calculate with the methodologies learned might yield a price different than what the stock trades at in the stock market. You can reference any method of valuation models in offering thoughts on why there might be differences between intrinsic and market values. 2. Describe three different examples of analysis where you might use discounted cash flows.

Answer 1

1. The intrinsic value is an approx NPV of future discounted cash flows (post-tax and inflation adjusted)- DCF method, whereas Market Price of a Stock is the price which people are willing to pay for the Share at any given moment.

Market Price could be different from the Intrinsic Value of stock because market price reflects supply demand pattern and market volatility situation as well. Strong investor demand for a stock can lead to overvaluation, meaning the market value is higher than the intrinsic value. Market prices are mainly driven by forward looking expectations of the investors whereas intrinsic value has been derived basis estimating the next 5-10 years post tax inflation adjusted cash flows, which are basically based on the past trends.

2. You can use DCF for following types of analysis-

a. For evaluating a Capex based Project/ investments in assets;

b. For selecting between two mutually exclusive projects;

c. For evaluating a value of a company/ assets.