Compare equity valuation methods for the ISE exam. Master DDM, DCF, P/E multiples, and understand when to use each approach.
Equity Valuation Methods for ISE
The ISE tests your ability to value equities using multiple approaches. Understanding when to use each method is key.
Dividend Discount Models (DDM)
Gordon Growth Model
- Formula: P = D1 / (r - g)
- D1 = Next year's dividend
- r = Required return
- g = Dividend growth rate
Best Used For
- Mature, dividend-paying companies
- Stable dividend growth
- Utilities, banks, REITs
Limitations
- Doesn't work for non-dividend payers
- Sensitive to growth assumptions
- Requires g < r to work
Discounted Cash Flow (DCF)
Free Cash Flow Model
- Project future free cash flows
- Discount to present value
- Add terminal value
- Subtract debt to get equity value
Best Used For
- Companies with predictable cash flows
- Non-dividend payers
- Acquisition analysis
Relative Valuation (Multiples)
P/E Ratio
- Price / Earnings per share
- Compare to industry peers
- Higher P/E = higher growth expectations
- Use forward or trailing earnings
Other Multiples
- P/B: Price to Book value
- EV/EBITDA: Enterprise value multiple
- P/S: Price to Sales
Choosing the Right Method
| Situation | Best Method |
|---|---|
| Mature dividend payer | DDM |
| Growth company, no dividends | DCF |
| Quick comparison | P/E multiple |
| Cyclical company | EV/EBITDA |
Key Exam Topics
- DDM calculations
- When to use each method
- Interpreting P/E ratios
- Limitations of each approach
- Combining methods for better analysis
Tags:ISE valuation methodsDDMDCFP/E ratio