Dr. P.V. Viswanath



Economics/Finance on the Web
Student Interest

  Courses /  

FIN : Valuation of Firms: Theory and Practice
Spring 2007

Email: pviswanath@pace.edu
Webpage: http://www.pviswanath.com

Course Description

This course deals with the valuation of corporate securities, primarily stocks. Students will learn about the techniques of investigating and valuing stocks. Most of the course will be devoted to the valuation of stocks based on fundamental analysis, paying attention to the macro-economy as well as to firm-specific issues such as industry characteristics, quality of accounting numbers, forecasting growth and using appropriate discounted cash flow and relative valuation models.

Texts and related educational material required for students in this course

The primarily text will be Aswath Damodaran, Investment Valuation: Tools and Techniques for Determining the Value of Any Asset, Second Edition, John Wiley and Sons, 2002.  The text can also be accessed online.
Students will be expected to keep abreast of economic and financial news by reading business periodicals.  They will also use Internet websites to research stocks.  Professor Damodaran also maintains a website with up-to-date information, which students will use.  The text is also supplemented by notes on Prof. Viswanath’s website.

Course Requirements

There will be two exams, which will be primarily applied (the number of exams may be reduced to one, depending upon how often the class meets).
Half of the grade will depend on the valuation report that the students will prepare on a company of their choice (in consultation with the instructor) and the in-class presentation of the report.

Topics to be covered:

  • Chapter 4: The basics of risk -- CAPM and Models of Default Risk
  • Chapter 7: Riskless rates and Risk Premiums
    • Historical Risk Premiums
    • Implied Equity Premiums
    • Behavior of the Default Spread
  • Chapter 8: Estimation of Risk Parameters and Cost of Financing
    • Regression beta
    • Adjusting the regression beta for regression towards the mean
    • Adjusting the beta for changes in financial leverage
    • Fundamental approaches to beta estimation
    • Bottom-up betas
    • Measuring the cost of debt
      • Measuring Default Spreads
      • Estimating a Tax Rate
      • Estimating the cost of hybrid securities
      • Estimating Debt and Equity weights -- capitalizing operating leases and R&D
  • Chapter 9: Measuring Earnings
    • Converting Operating Leases into Debt; adjusting operating income
    • Capitalizing Recruitment and Training Expenses
    • Capitalizing Selling, General & Administrative Expenses?
    • Warning Signs in Earnings Reports (p. 245)
    • How to deal with merger accounting -- amortization of goodwill
    • How to deal with divestitures
    • How to deal with minority and majority interests
  • Chapter 10: From Earnings to Cash Flows
    • Tax Rates -- Federal Tax rates and State taxes
    • Lumpy Capital Expenditures -- Averaging over time; caution regarding firms that change business models
    • How to treat acquisitions
    • Investments in Working Capital -- Should these be broken down into components or not?
  • Chapter 11: Estimating Growth
    • Historical estimates of growth
    • Estimating growth rates for the components of earnings -- forecasting revenues vs. forecasting earnings.
    • Using Analyst Forecasts
    • Fundamental Determinants of Growth
      • Growth in Earnings per share
      • Growth in Net Income
      • Growth in Operating Income
      • Growth in Revenues
  • Chapter 12: Estimating Terminal Value
    • Estimating Stable Growth Rates
  • Chapter 13, 14, 15: Versions of Models
    • Dividend Discount Model
    • Free Cash Flow to Equity
    • Free Cash Flow to the Firm
  • Chapter 17, 18 and 19: Relative Valuation, Earnings Multiples, Book Value Multiples, Revenue Multiples and Sector-Specific Multiples
    • Price-Earnings Ratios
    • Book Value Multiples

Course Outline and Time-Table 

Class Meeting

Topics (Chapters  refer to Damodaran, Investment Valuation)

Meeting 1

Macro Aspects of Investing -- the Macro Economy and the firm

Meeting 2

Chapter 4: The basics of risk -- CAPM and Models of Default Risk

Meeting 3

Chapter 7: Riskless rates and Risk Premiums

Meeting 4

Chapter 8: Estimation Risk Parameters and Cost of Financing

Meeting 5

Chapter 9: Measuring Earnings

Meeting 6

Chapter 10: From Earnings to Cash Flows

Meeting 7

Chapter 11: Estimating Growth

Meeting 8

Chapter 12: Estimating Terminal Value

Meeting 9

Chapter 13, 14, 15: Choosing the Right Model

Meeting 10

Chapter 17: Relative Valuation

Meeting 11


Meeting 12

Stock Research Report Presentation

Meeting 13

Stock Research Report Presentation

Meeting 14

Stock Research Report Presentation

More information for Students

Where to get information on US firms:

What to do:

  • Read all you can about the firm
  • What has been happening in the recent history of the firm
    • to what extent can we depend upon historical information?
  • Read about the industry
    • Is there seasonality in earnings?
    • What multiples are appropriate in this industry for valuation?
  • Is the industry properly defined?  Figure out why you need the industry.  If this is for relative valuation, e.g. you should figure out what firms are appropriate to compare with your firm, and then create your own industry.  This should be what you should use for those purposes.
  • What are the earnings drivers?
  • Look at the components of earnings and analyze them.
  • Are earnings restated?
  • Separate the firm's assets into its components and value them separately (p.241)
    • Minority holdings -- ignore them and value them separately
    • Majority holdings -- include them and subtract out the value of minority interest.  However, if the other company has a different cost of capital, then strip out those earnings and value them separately.

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