Regarding qbank Question ID#: 87719. Why is dividend yield preferred to P/FCFE when accounting standard differences are of concern? Are dividends and FCFE not subject to grossly similar accounting treatments?
I would say that although both are affected by the accounting treatments, DDM relies less so than FCFE DDM requires 1) Dividend 2) growth rate 3) payout ratio 4) ROE 5) required rate of return whereas FCFE requires aside from the required rate of return 1) NI 2) depreciation (and therefore depreciation methods) 3) FCI 4) WCI 5) Net borrowings 6) tax rate So the main determining factor is dividend where it doesn’t even have to relate to NI as it can be paying a dividend regardless of how accounting treatment determines the NI.
Payout ratio, Dividend ratio are internally dependent on Payout = 1 - Dividend / NI ROE = NI/CE CE gets affected because of all the “accounting” shenanigans (that is your BV of Common Equity on your balance sheet). so not sure what this question is asking. Is it “a least likely” type of question? Please post the full question here - not everyone has access to the “QBank” at work!
Question: If Jenkins wants to compare foreign stocks to U.S. stocks and is concerned about differences in accounting, she should start with the: A) dividend yield. B) price/book ratio. C) price/FCFE ratio. Answer: Of all the price ratios, the price/free cash flow to equity ratio is the least affected by international accounting differences. However, the dividend yield is not affected by such accounting differences at all, and represents a good starting point. Residual-income models and price/book ratios are very sensitive to accounting issues. Comment: IMHO, dividends and FCFE are both subject to differences in international accounting standards. After all, dividends is derived from what ever FCFE is available, right?
The answer is saying that Dividend Yield is not affected by different standards in accounting. The analyst knows what the dividend is and knows what the stock price is and that’s that. Book value and FCFE depend on what the standards for accounting are.
dividends is less so - remember dividends are a management discretion - as to how much they pay.
Yes, but once they pay the dividend the yield is no longer in question. For example, the dividend yield of a company that just paid a $5 dividend with a current stock price of $40 is 12.5%. That same company could say they have an FCFE of $50 million but that depends on what accounting standards you’re talking about, i.e., what depreciation method you used, how many years, how you expensed, how capital expenditures and debt are treated, etc. FCFE could actually be $35 million or $60 million. That’s why P/FCFE is dependent on the standards and dividend yield is not.
Thank you, I finally got it. It’s a question on after the fact comparison. Now that makes some sense. FCFE needs possible clean up to make it comparable to whatever definition of FCFE I fancy, while dividend yield is clearly an objective measure, this money is more tangible.