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Lesson 6 of 7 · 15 min
Absolute valuation: present value and asset-based models
Absolute models estimate intrinsic value directly, either by discounting a chosen cash flow measure (dividends, FCFE, FCFF or residual income) at a matching rate, or by valuing what the firm owns minus what it owes.
In short
- Absolute approaches quantify the cash flows or asset values that drive intrinsic value; relative approaches compare price or EV multiples.
- Present value models differ in four features: the cash flow measure, the required return, the forecast horizon and the terminal value.
- Dividends suit mature stable payers; FCFE suits non-payers with a stable capital structure (both at ); FCFF suits high or changing leverage or negative FCFE (at WACC).
- Residual income = net income − equity charge; value = book value + PV of residual income. It suits firms without book distortions, with inconsistent dividends or negative FCF, and relies less on terminal value.
- PV models are rigorous and flexible but detailed and sensitive to inputs, and may miss market and industry dynamics.
- Asset-based models value resources owned (reserves, real estate) and are simple, but ignore the going concern, taxes and some liabilities.
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