What are some potential pitfalls of ratio analysis based on accounting data

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Financial ratio analysis will rarely be useful if practiced mechanically. lt requires a large dose of good judgment. Financial ratios seldom provide answers but they do help you ask the right questions. Moreover, accounting data do not necessarily reflect market values properly, and so must be used with caution. You need a benchmark for assessing a company's financial position. Therefore, we typically compare financial ratios with the company's ratios in earlier years and with the ratios of...

How do firms compute weightedaverage costs of capital

Here's the WACC formula one more time WACC rdebt x 1 - Tc x D V r x E V The WACC is the expected rate of return on the portfolio of debt and equity securities issued by the firm. The required rate of return on each security is weighted by its proportion of the firm's total market value not book value . Since interest payments reduce the firm's income tax bill, the required rate of return on debt is measured after tax, as rdebt x 1 - Tc . This WACC formula is usually written assuming the firm's...

How can stock valuation formulas be used to infer the expected rate of return on a common stock

The present value of a share is equal to the stream of expected dividends per share up to some horizon date plus the expected price at this date, all discounted at the return that investors require. If the horizon date is far away, we simply say that stock price equals the present value of all future dividends per share. This is the dividend discount model. If dividends are expected to grow forever at a constant rate g, then the expected return on the stock is equal to the dividend yield DIV1...