1. Understanding the correct price for stock is a key to successful investing. Finance world has several different methods use to calculate or understand a stock’s value One method is the dividend discount model which allows the investors to estimate the price they should be willing to pay for a stock. The investor can determine if the stock is undervalued or overvalued
The first step in dividend discount model starts with the idea that a stock’s price should be equal to sum of the future and current cash flow, taking into consideration the time value of money.
The dividend is the generally used to measure the cash flow. Dividends are one of the ways a company gives back to investor. Then the time value of money is considered
Would anyone like to explain more? 2. Companies are most commonly valued via their earnings. Also called net income or net profit, earnings are the money left over after a company pays all of its bills. To allow for apples-to-apples comparisons, most people who look at earnings measure them according to earnings per share (EPS).
You arrive at the earnings per share by simply dividing the dollar amount of the earnings a company reports by the number of shares it currently has outstanding. Thus, if XYZ Corp. has 1 million shares outstanding, and it’s earned $1 million in the past 12 months, it has a trailing EPS of $1. (It’s called “trailing” because it looks at the numbers reported in the previous four completed quarters.)
$1 million in earnings / 1 million shares = $1 earnings per share (EPS)
The earnings per share figure alone means absolutely nothing, though. To look at a company’s earnings relative to its price, most investors employ the price/earnings (P/E) ratio. The P/E ratio takes the stock price and divides it by the last four quarters’ worth of earnings. For instance, if, in our example above, XYZ Corp. was currently trading at $15 a share, it would have a P/E of 15.
$15 share price / $1 in EPS = 15 P/E
This is important to a company as many investor use thisas a measurement. How can this be impacted?