Data Case As a new analyst for a large brokerage firm, you are anxious to demonstrate the skills you learned in your MBA program and prove that you are worth your attractive salary. Your first assignment is to analyze the stock of the General Electric Corporation. Your boss recommends determining prices based on both the dividend-discount model and discounted free cash flow valuation methods. GE uses a cost of equity of 10.5% and an after-tax weighted average cost of capital of 7.5%. The expected return on new investments is 12%.

Data Case

As a new analyst for a large brokerage firm, you are anxious to demonstrate the skills you 

learned in your MBA program and prove that you are worth your attractive salary. Your first 

assignment is to analyze the stock of the General Electric Corporation. Your boss recommends 

determining prices based on both the dividend-discount model and discounted free cash flow 

valuation methods. GE uses a cost of equity of 10.5% and an after-tax weighted average cost 

of capital of 7.5%. The expected return on new investments is 12%. However, you are a little 

concerned because your finance professor has told you that these two methods can result in 

widely differing estimates when applied to real data. You are really hoping that the two 

methods will reach similar prices. Good luck with that! 

1. Go to Yahoo! Finance (http://finance.yahoo.com) and enter the symbol for General 

Electric (GE). From the main page for GE, gather the following information and enter it 

onto a spreadsheet:

a. The current stock price (last trade) at the top of the page. 

b. The current dividend amount, which is in the bottom-right cell in the same box as 

the stock price. 

2. Next, click “Key Statistics” from the left side of the page. From the Key Statistics page, 

gather the following information and enter it on the same spreadsheet:

a. The number of shares of stock outstanding. 

b. The Payout ratio. 

3. Next, click “Analyst Estimates” from the left side of the page. From the Analyst 

Estimates page, find the expected growth rate for the next five years and enter it onto 

your spreadsheet. It will be near the very bottom of the page. 

4. Next, click “Income Statement” near the bottom of the menu on the left. Place the 

cursor in the middle of the income statements and right-click. Select “Export to 

Microsoft Excel.” Copy and paste the entire three years of income statements into a new 

worksheet in your existing Excel file.Repeat this process for both the balance sheet and 

cash flow statement for General Electric. Keep all the different statements in the same 

Excel worksheet. 

5. To determine the stock value based on the dividend-discount model: 

a. Create a timeline in Excel for five years. 

b. Use the dividend obtained from Yahoo! Finance as the current dividend to forecast 

the next five annual dividends based on the five-year growth rate. 

c. Determine the long-term growth rate based on GE’s payout ratio (which is one 

minus the retention ratio) using Eq. 9.12. 

d. Use the long-term growth rate to determine the stock price for year five using Eq. 

9.13. 

e. Determine the current stock price using Eq. 9.14.

6. To determine the stock value based on the discounted free cash flow method:

a. Forecast the free cash flows using the historic data from the financial statements 

downloaded from Yahoo! to compute the three-year average of the following 

ratios:

i. EBIT/Sales

Chapter 9: Valuing Stocks Page 1 of 2

http://wpscms.pearsoncmg.com/bp_berk_cf_2_global/141/36158/9256670.cw/content... 03/11/2011ii. Tax Rate (Income Tax Expense/Income Before Tax)

iii. Property Plant and Equipment/Sales

iv. Depreciation/Property Plant and Equipment

v. Net Working Capital/Sales 

b. Create a timeline for the next seven years. 

c. Forecast future sales based on the most recent year’s total revenue growing at 

the five-year growth rate from Yahoo! for the first five years and the long-term 

growth rate for years 6 and 7. 

d. Use the average ratios computed in part (a) to forecast EBIT, property, plant and 

equipment, depreciation, and net working capital for the next seven years. 

e. Forecast the free cash flow for the next seven years using Eq. 9.18. 

f. Determine the horizon enterprise value for year 5 using Eq. 9.24. 

g. Determine the enterprise value of the firm as the present value of the free cash 

flows. 

h. Determine the stock price using Eq. 9.22. 

7. Compare the stock prices from the two methods to the actual stock price. What 

recommendations can you make as to whether clients should buy or sell GE stock based 

on your price estimates? 

8. Explain to your boss why the estimates from the two valuation methods differ. 

Specifically, address the assumptions implicit in the models themselves as well as those 

you made in preparing your analysis. Why do these estimates differ from the actual 

 

stock price of GE?