What would be some of the "standard textbook" ways, used by business schools or wall st analysts (same thing), of valuating a stock that will never pay a dividend? According to the dividend discount model, a stock like that would theoretically be valued at "zero"... How would a company that pays no dividend, and has explicitly declared that it won't, return "value" to its common stock shareholders?
It's been argued that a company that never pays a dividend IS worth $0. Take the example of a company that has huge profits, dominates their market, and continues to accumulate cash reserves for decades. Eventually the company goes bankrupt without ever paying dividends. Their remaining assets are distributed to creditors. If everyone could see the future, the value of this company's stock would go to zero. This example assumes that no one could intervene in the course of events. Otherwise you could buy up the "valueless" stock and liquidate the company's hard assets at a profit. As a starting point, you could assume that a company's worth is at least equal to its liquidation value. Wayne
I see... So the valuation would be based on a theoretical takeover/breakup... What about in the case of Google... They won't pay dividends and the preferred stock held by the insiders have the voting rights that matter... How would the big houses value the common shares? When they give their price targets, what are they doing it based on? Thanks for the response... --- according to y! finance Goog has cash of about $25/sh and a book of $32/sh ...Market price is about $340... According to http://investor.google.com/faq.html#ii5, there are no dividends in the 'near future'...
One of the mainstream approaches is to estimate all future cash flows and apply a discount factor to arrive at a current value. Estimating future cash flows is tricky to say the least and requires, to my mind, a fair amount of wild ass guessing. Using this approach, you would buy a non-dividend paying company in order to position yourself to receive future dividends. There would no other reason to buy. Using this approach, you would buy Google in anticipation of future cash paybacks, regardless of their current statements about dividends. Once a company reaches a certain stage of maturity and market saturation, it can no longer put excess cash to productive use, and the only rational course at that point is to send it to stockholders. I'll go out on a limb and guess that, using this valuation approach, Google's current stock cannot be justified. Many of the people buying and selling Google are speculators looking for capital gains. That's a different game altogether, and not one likely to be played by people using a dividend discount valuation model. I'm no expert on valuation and its been a while since I've done much reading about it. Maybe someone more knowledgeable can step in and help you out. Wayne
A company doesn't have to be valued based on dividends that it pays. You can value it based on free cash flows, as it has been pointed out above. Basically, you estimate future sales, costs and etc to arrive at some cash flows. Then you discount them back to the present and sum up. It does require quite a bit of "creative" thinking and guesstimation, to say the least.
Just to add to this, you could also instead estimate future free cashflows, then apply a growth metric and apply appropriate discounting (one method of discounting being WACC). I'm heading out with the girlfriend right now, will post a formula for you later.
According to a 1993 study, the analysis of the stock prices of 30 Dow Jones Industrial companies found that typically between 80% and 90% of the stock prices were attributable to expected cash flows paid out in the form of dividends beyond five years. How accurate can someone without a crystal ball estimate these cash flows is another matter .
hmm.... Ok thanks for the response, guys... Just a thought... the only way a shareholder "investor" would be able to reap any real 'tangible' benefit would be for a cash dividend payout... And prehaps the only real reason for someone to want to own a company is to cash out, maybe not now, but "in the future"... prehaps like a massive microsoft dividend... So this is why I think the dividend/yield model is important for an investor... Anyway thanks again.
You discount future cash flows by your own required return which is different for various people. That's how you figure out what the stock is worth to YOU. WACC is meant to evaluate projects by the company for the company, not to figure out the stock price for possible shareholders. WACC can change very often, a simple Moody's mood swing can change it significantly. There is no set true model for evaluation of any stock price, that's why there is such thing is speculation. No IBanker can give you a real non biased valuation on a company unless you can make serious assumptions such as stable consistent cash flows for 10-20 years (even 30). Works for old stable low growth companies, like most of the Dow 30 but not for new and exciting companies. Dividends and even Free Cash Flow is not practical in times where the company is in a rapid growth phase and reinvests everything they can back into the business. Accounts Receivables turnover in those cases lag the inventory turnover by a significant margin, hence the cash flow is very constained. You have to use Net Income (if there is any) and make some loose projections based on market potential and a bunch of other fluff. I personally look for real returns from a stock investment, such as dividends. They actually do make you feel like you actually own some part of the company. Otherwise it's just speculation.