Guide To Excel For Finance: Valuation Methods
  1. Guide To Excel For Finance: Introduction
  2. Guide To Excel For Finance: Goal Seek
  3. Guide To Excel For Finance: PV And FV Functions
  4. Guide To Excel For Finance: HLookup And VLookup
  5. Guide To Excel For Finance: Linking Yahoo! Finance and Other Outside Financial Data To Excel
  6. Guide To Excel For Finance: Ratios
  7. Guide To Excel For Finance: Technical Indicators
  8. Guide To Excel For Finance: Valuation Methods
  9. Guide To Excel For Finance: Advanced Calculations
  10. Guide To Excel For Finance: Conclusion

Guide To Excel For Finance: Valuation Methods

DCF
There is not a specific function to run a full discounted cash flow model in Excel, but there are a number of tools to make the exercise much more straightforward. As touched upon in the PV and FV functions on a previous page, it is first necessary to estimate either the present or future value of a security, then also estimate its future cash flows. Discounting these cash flows back by an estimated discount rate will provide a future value. Conversely, starting with a present value and cash flows can allow the user to back into the estimated future value.

In addition to the above two functions, Microsoft has an IRR function that lets you back into the discount rate, or specifically the internal rate of return, for a series of cash flows. Excel points out that this is very closely related to the PV function, meaning the same inputs are needed, such as an initial present value followed by a string of cash flows.

The below details a specific cash flow stream for an investment, starting with an initial investment of $70.


Dividend Discount Model DDM
The dividend discount model (DDM) represents another approach to estimate the value of a stock or company by discounting back its estimated future dividend rates. It is very similar to a DCF, but uses dividends instead of cash flows. A basic model can be built an only requires knowing the current dividend rate, estimated dividend growth rate, and discount rate, or required rate of return.

However, there are more complicated ways to look to estimate dividends, including at rates that change over time. Below is an example of just how complicated the exercise can become:


Residual Income Model (RIM)
Along with the DDM, the residual income model (RIM) is another specialized version of a DCF used to value a firm. In its most basic form, the RIM has an equity charge that is equal to equity capital multiplied by the cost of equity. This is subtracted from net income to get to a residual income figure, which is used in lieu of cash flow or dividends, as calculated in the DCF and DDM models. Residual income figures can easily be modeled and calculated in Excel, but there are a number of steps to get to these calculations.

Below is an example of a full RIM as created in Excel:

Name of Firm:
NewCo
Date of Valuation:
11/22/10
($ and shares in millions)
Growth Rates:
First 5 years
17.00%
Years 6 – 10
11.00%
After 10 years
4.00%
Capital Retention Rates:
First 5 years
85.00%
Years 6 – 10
60.00%
After 10 years
20.00%
Past Year Normalized Earnings
$ 3,688
Beginning Book Value of Equity
$ 20,119
Expected Rate of Return on Equity
10.00%
Discount Rate
10.00%

And below are the outputs, as calculated by the above RIM:

Book Value
Present Value of
of Equity
Residual Earnings
Intrinsic Value
IV per Share
$ 20,119
$66,090
$ 86,209
$ 37

Bond Valuation
There are a number of bond valuation functions in Excel. The "PRICE" function returns the estimated market value of a bond with a $100 face value. Below are the details of the metrics needed to value such a bond, which happens to be $90.20, based on the inputs provided.


Other bond functions include the ability to calculate a bond's duration, modified duration, yield to maturity, yield, and discount rate.Basically, there is the ability to solve for any variable when valuing a bond.

Guide To Excel For Finance: Advanced Calculations

  1. Guide To Excel For Finance: Introduction
  2. Guide To Excel For Finance: Goal Seek
  3. Guide To Excel For Finance: PV And FV Functions
  4. Guide To Excel For Finance: HLookup And VLookup
  5. Guide To Excel For Finance: Linking Yahoo! Finance and Other Outside Financial Data To Excel
  6. Guide To Excel For Finance: Ratios
  7. Guide To Excel For Finance: Technical Indicators
  8. Guide To Excel For Finance: Valuation Methods
  9. Guide To Excel For Finance: Advanced Calculations
  10. Guide To Excel For Finance: Conclusion
RELATED TERMS
  1. Present Value - PV

    The current worth of a future sum of money or stream of cash ...
  2. Discounted Cash Flow (DCF)

    Discounted cash flow (DCF) is a valuation method used to estimate ...
  3. Dividend Discount Model - DDM

    A procedure for valuing the price of a stock by using predicted ...
  4. Discount Rate

    The interest rate charged to commercial banks and other depository ...
  5. Discounted Future Earnings

    A method of valuation to estimate the value of a firm.
  6. Discounted After-Tax Cash Flow

    An approach to valuing an investment that looks at the amount ...
RELATED FAQS
  1. How do I calculate free, discounted and operational cash flow in Excel?

    Take a quick look at how you can calculate a company's operating cash flow, free cash flow and discounted cash flows using ... Read Answer >>
  2. When can I use the Dividend Discount Method (DDM) to value a stock?

    Learn about the dividend discount model and when it can most appropriately be used to measure the value of a stock by fundamental ... Read Answer >>
  3. How do I find the information needed for input into the Dividend Discount Model (DDM)?

    Learn where analysts and investors can find the three pieces of necessary information that allow them to calculate the dividend ... Read Answer >>
  4. How can I use the Dividend Discount Model (DDM) effectively for a stock with fluctuating ...

    Find out how the dividend discount model is applied to stocks with irregular dividend payments and how firms with irregular ... Read Answer >>
  5. When and why should the terminal value be discounted?

    Find out why investors use the terminal value, why the terminal value is discounted to the present day, and how it's related ... Read Answer >>
  6. Why would you take DCF into account rather than simply projecting future revenues?

    Learn what discounted cash flow analysis is and why it is considered a better equity valuation tool than simply projecting ... Read Answer >>

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