ROMEO S. MARTIN, JR.

BS ACCOUNTANCY

FIN3N FINANCIAL MANAGEMENT 2 PROF. MICHAEL AUDITOR, CPA, MBA Synthe ! "n St"#$ %&'(&t!"n

The stock market is particularly fascinating amidst its complexities. The highs and lows of players cladded in black suits and ties involve proxies, exercise of preemptive and voting rights and management takeovers - all to protect shareholders stakes and their wealth. Opportunities for profits and threats of losses abound everywhere from newly listed private companies providing initial public offerings, to trading in the secondary markets. With innovations on technology as the nternet, the stock market has become much more accessible nowadays, not only to serious financial traders, but even among common households !especially to the well-informed middle-class citi"ens of #merica$. This accessibility to a larger audience of investors has enabled companies to generate capital faster, especially with less transaction costs involved, in contrast with the capital markets selling bonds to select investors. %et amidst this fast-paced, generally profitable system of securities come a bag load of risks. Thus, investors are coerced always to keep in mind the greatest virtue in stock valuation& to buy the common stock when its 'true( or intrinsic value is greater than its market price) and to sell the common stock when its market price is greater than its intrinsic value. *righam et al have particularly discussed two ways on how investors value their stocks& the +ividend ,rowth -odel, and the Total .ompany, or .orporate /alue, -odel. What sets them apart0 The former assumes that the company stock generates or will generate dividends in the future, while the latter will not do so. The +ividend ,rowth -odel values a share of stock with 'the present value of the stream of dividends the stock is expected to provide in the future(. +ividend payout is one essential factor in the salability of a stock. #t 1ero ,rowth 2ate, the stock is assumed to pay dividends at a constant rate) while at 3upernormal ,rowth 2ate, the stock is assumed to pay dividends at a rate particularly greater than the economy. There will come a time that a stock experiencing supernormal growth reaches plateau. This time or date is said to be the terminal, or hori"on, date, and it is a time assumed that dividend growth rate remains constant, such that stock value forecasts are not much needed anymore. # terminal value is also determined at this point which is the value of all dividends to be paid out through this stock in the future. #n approach similarly connected with the 'salability factor( of a stock is the 4rice 5arnings -ultiple #pproach !as discussed in the ndustry 4ractice corner on page 676$. The assumption on this is that a stocks price depends on its companys earnings 8 low earnings mean low price, high earnings mean high price. %et analysts see this approach as not essentially conclusive with accounting practices varying among companies despite trends on conformance to standards. #s such, the approach is still seen as helpful yet only with other 'multiples( or factors still to consider. The .orporate /alue -odel is particularly useful with valuation of stocks that do not pay dividends, and that of privately owned firms. The computation through this

ROMEO S. MARTIN, JR. BS ACCOUNTANCY

FIN3N FINANCIAL MANAGEMENT 2 PROF. MICHAEL AUDITOR, CPA, MBA

model is especially dependent on free cash flows. The computation of 9ree .ash 9lows involves deducting :et Operating 4rofit after Taxes !:O4#T$ and :et Operating .apital 5xpenditure from 3ales. Through this model, the 5stimated 3tock 4rice is the ;uotient of the /alue of the 9irms .ommon 5;uity to 3hares Outstanding. <pon reflection, this method is particularly similar to the computation of *ook /alue per 3hare in 9inancial 2eporting. These methods on stock valuation are kept in mind by one financial industry key player deemed to represent the general mindset of investors and whose function is to set a stocks market price -the marginal investor. 3ome marginal investors may think that a stocks re;uired rate of return is essentially e;uitable to its expected return. #s such, the marginal investors may also think that a stocks intrinsic or 'true( value e;uates its market price. On this view, a state of 5;uilibrium is achieved. n connection with this view of 5;uilibrium on stocks, the 5fficient -arkets =ypothesis is conceived with the assumption that stock prices are always e;ual with their intrinsic values, and that it is relatively impossible for investors to 'beat the market(. To '*eat the -arket( means to essentially continue gains. >ikewise this hypothesis promotes the notion that it is people, financial traders, that generally, complexly, directly or indirectly dictate the movements in the prices of stocks. t is almost like saying that those who gain are sheer lucky, or have committed insider trading which is considered illegal. *ut the truth of the matter is, the notion supports that market price depends on traders coming up with a 'balance of factors( through information available, the degree of efficiency depending on it. The levels of market efficiency include weak-form, semistrong-form, and strongform. The assumptions on these levels include past information reflected on current prices in weak-form) publicly available information reflected on semistrong-form) and both public and private information reflected on strong-form. These considerations help in the decision-making on the price-setting, buying, and selling of common stocks. ndeed this chapter on stock valuation gave a birds eye view on the ways and means of establishing the stock prices. 2eading along the lines of *righam et al relives my experience of watching Wallstreet starring .harlie 3heen. There will come a time, may not be on playing stocks, that will be caught in delirious situations regarding my profession. 3tock traders, among other financial professionals, are caught always in such situations. Will ever stay true to ethics and play it clean0 Or will ever be caught off of what know and ?ust play it dirty like .harlies character0 To think about it now, would say that maybe will oblige to commit something unethical if it is the only means of my safety. Then am off to resign. *ut will always remember the +octrine of 5scape in Taxation 8 it is better to #void than to 5vade. That is why learning these things as stock valuation now is crucial - for it is only through learning that some unlikely things would seem legal.