Formulae in Equity Securities (Based on Schoolbook)

Equation 1: Return on Equity = Net Income / Average Book Value of Equity

Equation 2: Value of Preferred Share (Vp) =

Equation 3: Value of Common Share (V0 or P0) =

Equation 4: Constant Growth or Gordon Growth Model (P0) =

Note: the formula can only be applied if the discount rate (cost of equity) is greater than growth
rate.

Equation 5: Growth Rate (g) = (1 – Payout ratio) x ROE = Retention rate (b) x ROE

Equation 6: Multi-stage Growth Model (V0) =

Equation 7: Weighted Cost of Capital (WACC) = rD(wD) + rP(wP) + rE(wE)

where: rD = after-tax cost of debt (i.e. YTM); rP = cost of preferred equity; rE = cost of common
equity
wD, wP, and wE = weights of each capital class in the company’s market value of capital
Equation 8: Firm Value (no growth) =

Equation 9: Firm Value (Constant Growth) =

Equation 10: Equity Value = Firm value – Market value of debt

Equation 11: Free Cash Flow to Firm (FCFF) = Net Income + Net non-cash charges + After-tax
Interest Expense – Net Investment in Fixed Capital – Net Investment in Working Capital

FCFF = NI + NCC + [Int x (1 – t)] – FCInv – WCInv

Equation 12: Equity Value (no growth) =

Equation 13: Equity Value (Constant Growth) =

Equation 14: Free Cash Flow to Equity = After-tax EBITDA + Tax savings on Net non-cash
charges – After-tax Interest Expense – Net Investment in Fixed Capital – Net Investment in
Working Capital + Net Borrowing

FCFE = [EBITDA x (1 – t)] + (NCC x t) – [Int x (1 – t)] – FCInv – WCInv + Net Borrowing

Equation 15: Price Multiples = Price / Earnings per share or Price / Book value per share, etc.