NISM Series XV · Unit 10 of 15 · about 12% of the paper
Valuation principles: NISM Series XV notes and practice questions
Turning analysis into a price. Intrinsic and relative valuation methods, their assumptions and limits.
What to know in Unit 10
- DCF and its inputs.
- P/E, P/B, EV/EBITDA.
- Dividend discount model.
- WACC and CAPM.
Key terms, examples and exam traps
Discounted cash flow
DCF values a business as the present value of its expected future free cash flows, discounted at the required rate of return.
Example. An analyst projects cash flows for ten years and discounts them to today.
Exam trap. This statement is false: DCF values a business by multiplying earnings by a ratio.
Free cash flow to firm
FCFF is the cash available to all capital providers after operating costs and investment, discounted at WACC to value the firm.
Example. An analyst computes cash available to both lenders and shareholders.
Exam trap. This statement is false: FCFF is cash available only to shareholders.
Free cash flow to equity
FCFE is the cash available to shareholders after debt payments and reinvestment, discounted at the cost of equity.
Example. An analyst values the equity using cash left after servicing debt.
Exam trap. This statement is false: FCFE is discounted at WACC.
WACC
The weighted average cost of capital blends the cost of equity and after-tax cost of debt in proportion to their weights, and is the discount rate for FCFF.
Example. A firm funded 60% by equity at 12% and 40% by debt at 8% (after tax 6%) has a blended cost.
Exam trap. This statement is false: WACC uses only the cost of equity.
Cost of equity (CAPM)
CAPM estimates the cost of equity as the risk-free rate plus beta times the equity risk premium.
Example. With a risk-free rate of 6%, beta of 1.2 and market return of 12%, the required return is 13.2%.
Exam trap. This statement is false: CAPM estimates cost of debt.
Terminal value
Terminal value represents the value of cash flows beyond the explicit forecast period, often a large share of total DCF value.
Example. An analyst assumes cash flows grow steadily forever after year ten.
Exam trap. This statement is false: Terminal value is ignored in DCF.
Dividend discount model
The DDM values a share as the present value of expected dividends; in the Gordon model, value = D1 ÷ (r − g).
Example. A share paying ₹5 next year with growth 5% and required return 15% is valued at ₹50.
Exam trap. This statement is false: The DDM values shares using book value.
Price-to-earnings multiple
P/E divides price by earnings per share and is a relative valuation tool, compared with peers and history.
Example. A stock at 25 times earnings is compared with sector peers.
Exam trap. This statement is false: P/E is price divided by book value.
Price-to-book multiple
P/B compares market price with book value per share, widely used for banks and asset-heavy firms.
Example. A bank trading at 2.5 times book value.
Exam trap. This statement is false: P/B is used mainly for software firms.
EV/EBITDA
EV/EBITDA compares enterprise value with operating earnings before depreciation, neutral to capital structure, useful for comparing leveraged firms.
Example. A firm with EV of ₹5,000 crore and EBITDA of ₹500 crore trades at 10 times.
Exam trap. This statement is false: EV/EBITDA ignores debt entirely.
Enterprise value
Enterprise value is market capitalisation plus debt minus cash, the price of the whole business.
Example. A company with market cap ₹1,000 crore, debt ₹300 crore and cash ₹100 crore has EV of ₹1,200 crore.
Exam trap. This statement is false: Enterprise value equals market capitalisation.
PEG ratio
The PEG ratio divides the P/E by the expected earnings growth rate, adjusting the multiple for growth.
Example. A P/E of 30 with growth of 15% gives a PEG of 2.
Exam trap. This statement is false: The PEG ratio is the P/E multiplied by growth.
Relative valuation
Relative valuation values a security by comparing multiples with those of similar companies or its own history.
Example. An analyst compares a bank's P/B with peers.
Exam trap. This statement is false: Relative valuation requires projecting cash flows.
Sum-of-the-parts
Sum-of-the-parts values each business unit separately and adds them, useful for conglomerates.
Example. An analyst values a group's three divisions separately and sums them.
Exam trap. This statement is false: Sum-of-the-parts uses only a single multiple.
Sensitivity analysis
Sensitivity analysis shows how the valuation changes when key assumptions such as growth or discount rate are altered.
Example. An analyst shows value at different discount rates.
Exam trap. This statement is false: Sensitivity analysis fixes all assumptions.
Intrinsic versus market value
A recommendation compares intrinsic value with market price: buy if undervalued, sell if overvalued, after allowing a margin of safety.
Example. An analyst recommends buying when the market price is below fair value.
Exam trap. This statement is false: Market value always equals intrinsic value.
Equity risk premium
The equity risk premium is the extra return investors require from equities over the risk-free rate.
Example. Investors demand 6% more than government bonds for equity risk.
Exam trap. This statement is false: The equity risk premium equals the risk-free rate.
Book value
Book value per share is shareholders' equity divided by shares outstanding, from the balance sheet.
Example. Equity of ₹500 crore on 10 crore shares is ₹50 per share.
Exam trap. This statement is false: Book value per share is the market price.
Cyclically adjusted earnings
For cyclical firms, valuation based on peak or trough earnings misleads, so analysts use average or normalised earnings.
Example. An analyst uses mid-cycle earnings for a steel company.
Exam trap. This statement is false: Peak earnings are always the right base for cyclical stocks.
6 practice questions
Read each question and choose your answer before opening the free mock, which shows the correct answer and the reason.
Q1. Which term is described here? Relative valuation values a security by comparing multiples with those of similar companies or its own history.
- Relative valuation
- Intrinsic value
- Substitute threat
- Defensive industry
Q2. Which term is described here? Terminal value represents the value of cash flows beyond the explicit forecast period, often a large share of total DCF value.
- Top-down approach
- Terminal value
- Primary and secondary data
- Sensitivity analysis
Q3. Which statement best describes “Free cash flow to firm”?
- Interest coverage is EBIT divided by interest expense, showing how comfortably a company can pay interest.
- The cup and handle is a bullish continuation pattern with a rounded bottom followed by a small pullback before a breakout.
- The top-down approach starts with the economy, then selects industries and finally companies.
- FCFF is the cash available to all capital providers after operating costs and investment, discounted at WACC to value the firm.
Q4. Which statement best describes “Intrinsic versus market value”?
- A recommendation compares intrinsic value with market price: buy if undervalued, sell if overvalued, after allowing a margin of safety.
- A research entity should keep and show past ratings and price targets, so readers can see the track record.
- A rights issue offers existing shareholders the right to subscribe to new shares in proportion to their holding, usually at a discount.
- Systematic risk is market-wide and measured by beta; it cannot be diversified away.
Q5. Which term is described here? EV/EBITDA compares enterprise value with operating earnings before depreciation, neutral to capital structure, useful for comparing leveraged firms.
- Equity risk premium
- Board independence
- Terminal value
- EV/EBITDA
Q6. Which statement best describes “Cyclically adjusted earnings”?
- For cyclical firms, valuation based on peak or trough earnings misleads, so analysts use average or normalised earnings.
- The current account deficit arises when a country's imports of goods, services and transfers exceed its exports.
- Capital allocation is how management uses cash: reinvesting, acquiring, repaying debt or returning cash to shareholders.
- The Sharpe ratio is excess return over the risk-free rate divided by standard deviation, measuring return per unit of total risk.
Frequently asked questions
How much of NISM Series XV comes from Unit 10?
Unit 10 (Valuation principles) usually carries about 12% of the questions. The whole exam has 100 questions and the pass mark is 60%.
What should I study in NISM Series XV Unit 10?
DCF and its inputs. P/E, P/B, EV/EBITDA. Dividend discount model. WACC and CAPM.
Are these NISM Series XV practice questions free?
Yes. Take the full free mocks to see the correct answer and the reason for every question.
Next
UpperCrust Academy is independent study material from UpperCrust Wealth. It is not affiliated with NISM, SEBI or AMFI. For education only. Not investment advice. Always confirm the latest syllabus and rules on the official NISM website.