Principles of Managerial Finance

340 PART 2 Important Financial Concepts

TABLE 7.6 Summary of Key Valuation Definitions and

Formulas for Common Stock

Definitions of variables

Dtper-share dividend expectedat the end of year t

FCFtfree cash flow expectedat the end of year t

gconstant rate of growth in dividends

g 1 initial dividend growth rate (in variable-growth model)

g 2 subsequent dividend growth rate (in variable-growth model)

kaweighted average cost of capital

ksrequired return on common stock

Nlast year of initial growth period (in variable-growth model)

P 0 value of common stock

VCvalue of the entire company

VDmarket value of all the firm’s debt

VPmarket value of preferred stock

VSvalue of common stock

Valuation formulas

Basic stock value:

P 0 .. . [Eq. 7.2]

Common stock value:

Zero-growth:

P 0  (also used to value preferred stock) [Eq. 7.3]

Constant-growth:

P 0  [Eq. 7.5]

Variable-growth:

P 0 

N

t 1

 (^)  [Eq. 7.6]
FCF value of entire company:
VC.. . [Eq. 7.7]
FCF common stock value:
VSVCVDVP [Eq. 7.8]
FCF∞
(1ka)∞
FCF^2
(1ka)^2
FCF^1
(1ka)^1
DN^1
ksg 2
^1
(1ks)N
D^0 (1g^1 )t
(1ks)t
D^1
ksg
D^1
ks
D∞
(1ks)∞
D^2
(1ks)^2
D^1
(1ks)^1