Capital Asset Pricing Models
Running head: PRICING MODELS
Pricing Models
Adam F. Thornton
FIN 501 – 3
TUI University
Dr. William Anderson
Chipotle Mexican Grill (CMG) is one of the fastest growing restaurant chains in the United States. Self proclaimed as “fast-casual,” CMG offers a dining experience that is unique, organic, and which draws from the local economy. For the investor, CMG is a wise investment for the aggressive and fast growing portion of a portfolio. When determining an appropriate model to evaluate CMG’s potential, the Capital Asset Pricing Model (CAPM) is the best choice. This model offers the best amount detail while maintaining the simplicity needed for a model outlining investment decisions in CMG.
The Pricing Models
There are three pricing models to discuss when evaluating CMG: dividend growth, CAPM, and the Arbitrage Pricing Theory (APT). Each of these models has both advantages and disadvantages, easily tailoring one model to different situations. However, the CAPM is best suited for this case with CMG. Below is a further review on each of models’ advantages and disadvantages, and applicability to CMG’s market position and financial situation.
The Gordon Growth Model
The Gordon Growth Model (GGM) is a very simple model for estimating the value of a stock. This equation works by calculating the stock value from dividends per share, the required rate of return for the equity investor, and growth rate in dividends (Gordon, 2008). The equation looks like this: Stock Value (P) = D / (k-G). Where D is the expected dividend per share one year from now, k is the required rate of return for the equity investor, and G is the growth rate in perpetuity. This dividend growth model is best suited for a firm growing at a rate comparable to or lower than the nominal growth rate in the economy and which have well established dividend payout policies that they intend to continue in the future (Dividend). In
Pricing Models
Adam F. Thornton
FIN 501 – 3
TUI University
Dr. William Anderson
Chipotle Mexican Grill (CMG) is one of the fastest growing restaurant chains in the United States. Self proclaimed as “fast-casual,” CMG offers a dining experience that is unique, organic, and which draws from the local economy. For the investor, CMG is a wise investment for the aggressive and fast growing portion of a portfolio. When determining an appropriate model to evaluate CMG’s potential, the Capital Asset Pricing Model (CAPM) is the best choice. This model offers the best amount detail while maintaining the simplicity needed for a model outlining investment decisions in CMG.
The Pricing Models
There are three pricing models to discuss when evaluating CMG: dividend growth, CAPM, and the Arbitrage Pricing Theory (APT). Each of these models has both advantages and disadvantages, easily tailoring one model to different situations. However, the CAPM is best suited for this case with CMG. Below is a further review on each of models’ advantages and disadvantages, and applicability to CMG’s market position and financial situation.
The Gordon Growth Model
The Gordon Growth Model (GGM) is a very simple model for estimating the value of a stock. This equation works by calculating the stock value from dividends per share, the required rate of return for the equity investor, and growth rate in dividends (Gordon, 2008). The equation looks like this: Stock Value (P) = D / (k-G). Where D is the expected dividend per share one year from now, k is the required rate of return for the equity investor, and G is the growth rate in perpetuity. This dividend growth model is best suited for a firm growing at a rate comparable to or lower than the nominal growth rate in the economy and which have well established dividend payout policies that they intend to continue in the future (Dividend). In
References: Annual Report, 2009. Chipotle Mexican Grill. Retrieved on 16 May 2010 from http://phx.corporate-ir.net/phoenix.zhtml?c=194775&p=irol-reportsAnnual Clark, T. (2000). Earnings Growth and Stock Returns. Retrieved 4 Jun 10 from http://www.dfaus.com/library/articles/earning_growth_stock/ Dividend discount models. Retrieved 4 Jun 10 from http://pages.stern.nyu.edu/~adamodar/pdfiles/valn2ed/ch13.pdf Financial Concepts: Capital Asset Pricing Model. (2007). Retrieved 4 Jun 10 from http://www.investopedia.com/university/concepts/concepts8.asp Goetzmann, W. (1996). Chapter Six: The Arbitrage Pricing Theory. An Introduction to Investment Theory. Yale School of Management [Online]. Retrieved 4 Jun 10 from http://viking.som.yale.edu/will/finman540/classnotes/class6.html The Gordon Growth Model, (2008). Retrieved 4 Jun 10 from http://www.investopedia.com/terms/g/gordongrowthmodel.asp Money Terms (2007). Arbitrage Pricing Theory. Money Terms[Online]. Retrieved 4 Jun 10 from http://moneyterms.co.uk/apt/ Otuteye, E. (1998). The arbitrage pricing dichotomy. Canadian Investment Review. Winter 1998. Retrieved 4 Jun 10 from ProQuest database, Touro Cyberlibrary. Value Based Management Net, Capital Asset Pricing Model. Retrieved 4 Jun 10 from http://www.valuebasedmanagement.net/methods_capm.html