In
corporate finance,
[Alex Stomper (N.D.]
Finance Theory I
MIT OpenCourseWare
MIT OpenCourseWare (MIT OCW) is an initiative of the Massachusetts Institute of Technology (MIT) to publish all of the educational materials from its undergraduate- and graduate-level courses online, freely and openly available to anyone, anyw ...
the present value of growth opportunities (PVGO) is a
valuation measure applied to
growth stocks
In finance, a growth stock is a stock of a company that generates substantial and sustainable positive cash flow and whose revenues and earnings are expected to increase at a faster rate than the average company within the same industry. A grow ...
.
It represents the component of the company’s stock value that corresponds to (expected)
growth in earnings.
It thus allows an
analyst to assess the extent to which the share price represents the current business, and to what extent it reflects assumptions about the future.
As a proportion of
market cap
Market capitalization, sometimes referred to as market cap, is the total value of a publicly traded company's outstanding common shares owned by stockholders.
Market capitalization is equal to the market price per common share multiplied by t ...
, PVGO can then also be used in
relative valuation Relative valuation also called valuation using multiples is the notion of comparing the price of an asset to the market value of similar assets. In the field of securities investment, the idea has led to important practical tools, which could presu ...
, i.e. when comparing between two investments (see similar re
PEG ratio The 'PEG ratio' ( price/earnings to growth ratio) is a valuation metric for determining the relative trade-off between the price of a stock, the earnings generated per share ( EPS), and the company's expected growth.
In general, the P/E ratio is ...
).
PVGO is calculated as follows:
:
This formula arises by thinking of the
value of a company as inhering two components:
(i) the present value of existing earnings, i.e. the company continuing as if under a "no-growth policy";
and (ii) the present value of the company's growth opportunities.
PVGO can then simply be calculated as the difference between the
stock price and the present value of its zero-growth-earnings;
the latter, the second term in the formula above, uses the calculation for a
perpetuity
A perpetuity is an annuity that has no end, or a stream of cash payments that continues forever. There are few actual perpetuities in existence. For example, the United Kingdom (UK) government issued them in the past; these were known as conso ...
(see ).
References
Corporate finance
Valuation (finance)
Fundamental analysis
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