Corporate Valuation Summary
Week 1: Value drivers and introduction to valuation
The price of a stock is based on their expected cash flows.
Therefore there is always some uncertainty available, especially in uncertain times
Valuation is a combination of art and science, which will lead to different valuations in the end. It mainly
depends on:
Bias
Complexity
Uncertainty
Three myths:
1. A valuation is an objective search for ‘true’ value
a. All valuations are biased, its more how much and in which direction
b. The direction of the bias is directly proportional to who pays you and how much
2. A good valuation provides a precise estimate of value
a. There is no precise valuation, often condition on the circumstances
b. The payoff is greatest when valuation is least precise, scenarios is a solution
3. The more quantitative a model, the better the valuation
a. The less input is often better
b. Simpler valuation models do much better than complex ones
Where does the bias come from?
When you don’t like the company you already have a bias
Sources where you get the input from:
o Annual reports: Only represent the best information selected by the company itself
o Independent reports: more analysist will give positive information otherwise no firm
will give you attention anymore
o Stock traded: in the long-run the market will converse to the true value, but in the
short-run not. The market can also be wrong
Institutional factors, some people are encourages to don’t make a deal because otherwise they
don’t get there bonus
What to do with bias?
1. Reduce institutional pressures: institutions should protect their equity research analysts
2. De-link valuations from reward/punishment: a reward after a valuation will case a bias
3. No pre-commitments: decision makers should avoid taking a strong public position
4. Self-awareness: an analyst should be aware of the fact that there are biases
There are two types of uncertainty:
1. Firm-specific uncertainty: the firm may do better or worse than expected, cash flows will differ
2. Macro-economic uncertainty: interest rates could go up or down and the economy can change
How to solve uncertainty
1. Better valuation models: use more of the information
Week 1: Value drivers and introduction to valuation
The price of a stock is based on their expected cash flows.
Therefore there is always some uncertainty available, especially in uncertain times
Valuation is a combination of art and science, which will lead to different valuations in the end. It mainly
depends on:
Bias
Complexity
Uncertainty
Three myths:
1. A valuation is an objective search for ‘true’ value
a. All valuations are biased, its more how much and in which direction
b. The direction of the bias is directly proportional to who pays you and how much
2. A good valuation provides a precise estimate of value
a. There is no precise valuation, often condition on the circumstances
b. The payoff is greatest when valuation is least precise, scenarios is a solution
3. The more quantitative a model, the better the valuation
a. The less input is often better
b. Simpler valuation models do much better than complex ones
Where does the bias come from?
When you don’t like the company you already have a bias
Sources where you get the input from:
o Annual reports: Only represent the best information selected by the company itself
o Independent reports: more analysist will give positive information otherwise no firm
will give you attention anymore
o Stock traded: in the long-run the market will converse to the true value, but in the
short-run not. The market can also be wrong
Institutional factors, some people are encourages to don’t make a deal because otherwise they
don’t get there bonus
What to do with bias?
1. Reduce institutional pressures: institutions should protect their equity research analysts
2. De-link valuations from reward/punishment: a reward after a valuation will case a bias
3. No pre-commitments: decision makers should avoid taking a strong public position
4. Self-awareness: an analyst should be aware of the fact that there are biases
There are two types of uncertainty:
1. Firm-specific uncertainty: the firm may do better or worse than expected, cash flows will differ
2. Macro-economic uncertainty: interest rates could go up or down and the economy can change
How to solve uncertainty
1. Better valuation models: use more of the information
