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What Are You Actually Buying With Alibaba Group Holdings Limited (BABA)?

November 23rd, 2015 Posted by Investment Valuation No Comment yet
Alibaba Group Holding Limited (BABA) is a Chinese multinational conglomerate specializing in e-commerce, retail, Internet, and technology. Wikipedia

Alibaba has marked an amazing record of Singles’ Day sales of $14.3 billion (91.2 billion Yuan) on November 11, 2015. BABA is a super online and mobile marketplace around the globe. This giant company is contributing a lot to the economy of the People’s Republic of China (PRC) with regards to its success and high growth. The company has an attractive return on equity at 29.97 and has a huge potential for more future growth. However, Alibaba Group had a different corporate legal structure and ownership structure.

Furthermore, the company is using the “variable interest entity” (VIE) structure. In 2000, this structure was created to bypass PRC’s restrictions in certain industries like communications and technology. We have provided a graphic presentation, illustration, and interpretation of this corporate and ownership structure for easy understanding. It will help you understand the flow of ownership. Find out in this article what investors are really buying in the shares of Alibaba Group China in the initial public offering in the United States.

Company Research

Alibaba

Problem

Alibaba Group Holdings Limited is experiencing a counterfeit problem. Jack Ma said, that, the sale of one fake product could lead to a loss of five customers. Further, Ma said, fighting against counterfeits is not a matter for BABA as they are servicing in different parts of the globe.

Effect

  • Counterfeit problems affect Alibaba and also the Chinese economy according to Xinhua.
  • The company is spending additional expenditures, hundreds of million Yuan, in tracking and fighting counterfeits, according to Jack Ma in an interview with Xinhua.
  • In addition, BABA is also spending on refunding and compensating for their customers who bought counterfeits products.

Cause

According to Jack Ma, counterfeits could fundamentally damage the Chinese manufacturing sector. Further, Jack Ma said, “It leaves visible wounds on Alibaba, but it could severely affect the economic transition”.

Solutions

  • Shops involved with counterfeit products are closed according to Jack Ma.
  • Alibaba is tracking and fighting these counterfeit attack.
  • According to Jack Ma, improving Chinese laws could help honest businesses to build competitive brands.
  • The company is monitoring the sale of counterfeit products and kept the market watchdog informed, according to Jack Ma.
  • Further, the counterfeit issue can only be solved with the help of the internet and big data, Ma stated. He further stated that in the company’s internet, they have an evaluation system for the goods.
  • And with big data, they can locate those who produce and sell counterfeits.

About the Company

Company Profile

Alibaba Group Holding Limited (BABA) is a super online and mobile marketplace around the globe by revenue. BABA is the Cayman Islands holding company operating in China through its subsidiaries and variable interest entities (VIE) as a whole, engaged in online and mobile commerce activities of buy and sell of products, services, and technology. The giant company helps small businesses to communicate and connect with their consumers by their technology services and online marketplace. Further, they believed that small businesses have all the chance to grow and prosper by making it easy for them to do business online.

BABA have maintained their culture since the founding of the company and it has been the key to its success. The company cares and look with the interests of its customers and employees. Mr. Jack Ma sees to it that every policy they make with regards to the business, the customer’s concerns come first. Ma is responsible for the company’s strategic plans, culture, and customers concerns.

Company History

Its first website is English-language Alibaba.com, a global wholesale marketplace. On June 2011, Taobao Mall (currently known as Tmall.com) is spun off from Taobao Marketplace as an independent platform. On July 2005 Aliwangwang, a personal computer-based instant messaging tool that facilitates text, audio, and video communication between buyers and sellers, is launched on Taobao Marketplace.

Special Events

2014

October 2014, Taobao travel becomes an independent platform and is a brand named “Alitrip”.
Ant Financial Services Group, a related company of Alibaba Group previously known as Small and Micro Financial Services Company, was formally established.
September 2014 Alibaba Group goes public on the New York Stock Exchange (NYSE).
July 2014 Completes its investment in digital mapping company AutoNavi.
Establishes a joint venture with Intime to develop a 020 business in China.
June 2014 The company completes the full acquisition and integration of mobile browser company UCWeb.
The company starts offering mobile virtual network operators (MVNO) services in China under the All Telecom brand.
Completes acquisition of an approximately 60% stake in movie and television program producer ChinaVision (currently known as Alibaba Pictures Group).
February 2014 Tmall Global is officially launched as an extension of Tmall.com to enable international brands to offer products directly to consumers in China.

2010 – 2013

Sep 2013 Alibaba Group officially launches its mobile social networking app, Laiwang.
Aug 2013 Relocates its campus to Xixi District in Hangzhou.
Jul 2013 Unveils the Alibaba Smart TV OS.
May 2013 Taobao’s 10th anniversary is marked with a global gathering of Alibaba Group employees in Hangzhou.
Sep 2012 Completes an initial repurchase of shares from Yahoo! In a restructuring of the companies’ relationship.
Jan 2012 Establishes the Alibaba Foundation with a sizeable fund dedicated to social causes.
Nov 2010 Alibaba.com announces the acquisition of One-touch, a provider of one-stop services for exporters in China.
Aug 2010 The Mobile Taobao App is launched.
Jul and Aug 2010 Alibaba.com acquires Vendio and Auctiva, providers of e-commerce solutions to US small businesses.
July 2010 The Alibaba Partnership is established to ensure the sustainability of the Alibaba Group mission, vision, and values.
May 2010 Announces that it will earmark 0.3% of its annual revenue to fund efforts designed to spur environmental awareness and conservation in China and around the world.
Apr 2010 Officially launches AllExpress to enable exporters in China to reach and directly transact with consumers around the world.
Mar 2010 Renames its China marketplace 1688.com
Taobao Marketplace introduces online group buying marketplace Juhuasuan.

2005-2009

Sep 2009 Alibaba Cloud Computing (currently known as AliCloud) is established in conjunction with Alibaba Group 10th anniversary celebration.
Alibaba.com announces the acquisition of HiChina, China’s leading internet infrastructure service provider.
Sep 2008 Alibaba Group R&D Institute is established.
Ap 2008 Taobao Mall (currently known as Tmall.com), a dedicated platform for third-party brands and retailers, is introduced to compliment Taobao Marketplace.
Nov 2007 Alibaba Group launches Alimama, an online marketing technology platform.
Alibaba.com completes its initial public offering on the Main Board of the Hong Kong Stock Exchange.
Jul 2006 The Taobao University program is launched, providing e-commerce trading and education to buyers and sellers.
Oct 2005 Takes over the operations of China Yahoo!.
Aug 2005 Form a strategic partnership with Yahoo!

2001-2004

Dec 2004 Alipay, currently a related company of Alibaba Group, is launched as a third-party online payment platform.
Jun 2004 Alibaba Group organizes its first Nentrepreneur Summit, a gathering of internet entrepreneurs, and honors the first 10 Netrepreneurs of the Year.
Feb 2004 The company raises USD82 million from several first-tier investors in the largest private equity commitment ever in the Chinese Internet sector.
May 2003 Online shopping website Taobao Marketplace is founded, again in Jack Ma’s apartment.
Alibaba Group continues to operate in spite of the SARS epidemic and quarantine measures that prevent staff from coming to work.
Dec 2002 Alibaba Group becomes cash flow positive for the year.
Dec 2001 Alibaba.com surpasses 1 million registered users
Outlines its mission and corporate values.

1999-2000

Sep 2000 Alibaba Group organizes the first West Lake Summit, a gathering of internet business and thought leaders.
Jan 2000 Organizes the first West Lake Summit, a gathering of internet business and thought leaders.
Oct 1999 Raises USD 5 million from a consortium of investors
1999 Launches a China marketplace (currently known as 1688.com) for domestic wholesale trade
1999 Established by its 18 founders led by Jack Ma, working out of Jack Ma’s apartment in Hangzhou

Source: Alibaba website

The Company’s significant subsidiaries:

  • Taobao Holding Limited, an exempted company incorporated with limited liability, under the laws of the Cayman Islands. In addition, it is a wholly-owned subsidiary and also the indirect holding company of the PRC subsidiaries relating to the company’s Taobao Marketplace and Tmall platform.
  • Taobao China Holding Limited, a Hong Kong limited liability company. It is the direct wholly owned subsidiary of Taobao Holding Limited. In addition, it is the direct holding company of the PRC subsidiaries relating to the company’s Taobao Marketplace and Tmall platform. Furthermore, it is an operating entity for the overseas business of the company’s Taobao Marketplace and also Tmall  Global.
  • Taobao (China) Software Co. Ltd., a limited liability company incorporated under the laws of PRC. It is the indirect subsidiary of Taobao Holding Limited, and also a wholly foreign-owned enterprise. In addition, it provides software and also technology services for the company’s Taobao Marketplace.
  • Zhejiang Small Technology Co., Ltd., a liability company incorporated under the laws of the PRC. It is an indirect subsidiary of Taobao Holding Limited and also a wholly-foreign owned enterprise. Furthermore, it provides software and also technology services for the company’s Small platform.

More of Company’s Subsidiaries

  • Alibaba.com Limited, an exempted company incorporated with limited liability under the laws of the Cayman Islands. It is the company’s wholly-owned subsidiary and the indirect holding company of the PRC subsidiaries relating to the company’s Alibaba.com, 1688.com and AliExpress businesses.
  • Moreover, Alibaba.com Investment Holding Limited, a company incorporated with limited liability under the laws of the British Virgin Islands. It is the direct wholly owned subsidiary of Alibaba.com Limited. In addition, it is also a lower level holding company of the PRC subsidiaries relating to the company’s Alibaba.com, 1688 and AliExpress businesses.
  • Alibaba Investment Limited, a company incorporated with limited liability under the laws of the British Virgin Islands. It is the company’s wholly-owned subsidiary and the principal holding company for the company’s strategic investments.

Source: Form 20-F Alibaba Group Holding Limited

Date of Incorporation

Alibaba Group Holding Limited was incorporated in the Cayman Islands on June 28, 1999.

Place/Head Office

The registered office of the company is located at Trident Trust Company (Cayman) Limited, 4th floor, One Capital Place, P.O. Box 847, George Town Grand Cayman, Cayman Islands.

The Headquarters is located at 969 West Wen Yi Road, Yu Hand District, Hangzhou 311121, People’s Republic of China.

Telephone Number: +86-571-8502-2077

The service company office in the US is located at 1180 Avenue of the Americas, Suite 210, and New York, New York 10036.

Company’s website: www.alibabagroup.com

Founder/Founding

Alibaba Group Holdings Limited was founded on June 28, 1999, by a group of 18 people headed by Mr. Jack Ma, a former English teacher from Hangzhou, China.  It all started when Jack Ma founded Alibaba.com, a website that connects Chinese manufacturers with overseas buyers, a business to the business portal, in 1999.

Branches

Alibaba Group Holdings Limited is operating worldwide through the internet doing services like online shopping.

Date of IPO

Alibaba Group Holdings Limited started its Initial Public Offering (IPO) on September 19, 2014, in which the company had sold 368,122,000 ADSs, with the proceeds of $10 billion. The company is listed on the New York Stock Exchange (NYSE) with a ticker symbol BABA. Registered in the United States after Jack Ma could not achieve status with Hong Kong regulators.

Other Significant Company Information

  • A total of 34,985 full-time employees as of March 2015 are based in China.
  • Alibaba is recently involved in medical industry chain as compared with BIDU and Tencent. The company has better internet resources in online medical care, which could give a head start in cultivating more products, according to Xinhua news agency.
  • Simon Xie, one of the founders of Alibaba Group Holdings Limited, Vice President of China Investment team.
  • Jack Ma tried to raise funds with Silicon Valley but rejected because his business model was unprofitable. However, Goldman Sachs and SoftBank invested $5 million and $20 million, respectively in Alibaba Group.

Material Events Affecting the Numbers

MAJOR SHAREHOLDERS

BABA Major shareholders

The table above presents the major shareholders of Alibaba Group Holdings Limited with respect to beneficial ownership of the company’s ordinary shares. 

Facts:

  • Jack Ma owned 190.67 million ordinary shares at 7.6 percent of the total ordinary shares.
  • Joseph Tsai owned 78.4 million ordinary shares at 3.1 percent.
  • Softbank owned 797.7 million ordinary shares at 31.80 percent.
  • Yahoo! owned 383.57 million ordinary shares at 15.30 percent.
  • All directors and executive officers as a group owned 328.5 ordinary shares at 13.10 percent.

Explanation

  • It represents 2,033,177 ordinary shares held directly by Jack Ma.
  • Tsai has 35 million shares held by APN Ltd, a Cayman Islands company. In addition, Jack Ma holds 70 percent equity interest in the Cayman Islands.
  • Ordinary shares held directly by Tsai was 1,437,964.
  • While 15 million ordinary shares held by APN Ltd. in which Tsai holds a 30 percent equity interest.
  • SoftBank Corp. owned 466,826,180 ordinary shares, and also 15 million ordinary shares owned by SBBM Corporation (Tokyo). In addition, 315,916,800 ordinary shares owned by SB China Holdings Pte Ltd (Singapore).
  • Yahoo! Inc. (USA) owned 92,626,716 ordinary shares, and also 290,938,700 ordinary shares owned by Yahoo! Hong Kong Limited.
  • The ordinary shares outstanding as of June 23, 2015, were 2,512,427,504 shares.
  • The 1,015,779,482 ordinary shares at 40.4 percent of the company’s total outstanding shares were held by 159 record shareholders in the US.
  • The number of beneficial owners of the companies American Depository Shares (ADSs) in the US is much greater than the number of record holders of the company’s ordinary shares in the US.

Interpretation

Jack Ma owns only 7.6 percent ownership interest in the company. Investors from Alibaba IPO will not have direct ownership of Alibaba Group Holdings Limited instead, will only have a claim to the profits of the Chinese-owned variable interest entities.  Restrictions under the People’s Republic of China laws a risk is involved in the ownership.

Alibaba Group Holdings Limited Corporate Legal Structure

BABA corporate structure

Source:  Latest F-1 filing with the SEC

The illustration above presents the corporate legal structure of Alibaba Group with its significant subsidiaries and the variable interest entities. The structure is a combination of variable interest entities (VIE), wholly foreign-owned subsidiaries (WFOS ) and 100 percent owned intermediate holding companies, which use equity interests and contractual obligations to operate within China.

Alibaba’s Contractual Arrangements With Investors 

The People’s  Republic of China has a different structure when it comes to ownership of companies operating in China and listed in the United States. Foreign investment is restricted or prohibited in the PRC through wholly-foreign owned enterprises, majority-owned entities, and variable interest entities. The variable interest entities of the companies are owned by Jack Ma and Simon Xie with 80 and 20 percent ownership, respectively. Further, Zhejiang Taobao Network Co., Ltd. represents 90 and 10 percent ownership of Jack Ma and Simon Xie, respectively. 

The company has entered into contractual agreements which will enable them to exercise effective control over the variable interest entities and realize substantially all of the economic risks and benefits arising from the variable interest entities, a statement taken from the F-1 filings filed with SEC. In other words, it indicates that Jack Ma and Simon Xie holds a very significant share of Alibaba Group Holdings Limited and all other properties that the company is operating in PRC.

Ownership Structure and Contractual Arrangements

BABA Ownership structure

Source: Latest F-1 Filings with the SEC

The illustration above presents the ownership structure and contractual arrangements. The wholly foreign-owned subsidiaries and the variable interest entities profits go to Alibaba Group Holdings Limited, a Cayman Island ownership. The company is using the term “variable interest entities” for its Chinese assets.

The investors from Alibaba IPO has no direct ownership in the Chinese-based companies, however, they can claim to the profits. This is due to the PRC restrictions on foreign entities in having ownership of the Chinese assets. In other words, investors in the US IPO is buying shares in Cayman Islands entity the Alibaba Group Holdings Company Limited and not shares of Alibaba China. This applies to all foreign investors of Alibaba Group including Yahoo! and SoftBank. Moreover, the laws of PRC applies to all companies incorporated in China and listed under the United States, like BIDU and other Chinese companies.

Other significant information

There are significant risks that Alibaba had stated in their F-1 Filings. They indicate that this kind of structure might be illegal in  Chinese law since it ignores the prohibitions on foreign investments.

Moreover, the following statement  from the company’s F-1 Filings with the SEC may be significant to the holders of the American Depositary Shares (ADSs), quoted,

You may face difficulties in protecting your interests, and your ability to protect your rights through the U.S. federal courts may be limited because we are incorporated under Cayman Islands law, we conduct substantially all of our operations in China and most of our directors and all of our executive officers reside outside the United States.

MAIN ACTIVITY

How Does the Company Make Money?

Alibaba Group Holding Limited is doing business by providing online and mobile commerce to small businesses in China and other parts of the globe. Moreover, the company provides retail and wholesale marketplaces through its subsidiaries and make it available through personal computers and mobile devices. What makes Alibaba Group Holdings Limited different with other giant companies in other parts of the globe is that BABA has a concern with their customers and every policy that they make, they make sure that the customers come first and everyone is benefited, according to Jack Ma.

Products

The major business activities and products of Alibaba Group Holdings Limited were E-commerce, online auction hosting, online money transfers, and mobile commerce.

Market

Alibaba Group Holdings Limited is doing its business operations online where they can reach customers around the world with its high internet resources.

Who is running the Business?

Person-in-charge of the Company

JACK YUN MA, Lead founder, Executive Chairman, and Chief Executive Officer

BABA Jack MA

Jack Yun Ma is the head founder and the Executive Chairman since May 2013. Ma is the Chairman and Chief Executive Officer from 1999 to May 2013.

Jack Ma was born on September 10, 1964, in Hangzhou, Zhejiang Province, China. His real Chinese name, Ma Yun was difficult to pronounce and his foreign friends named him Jack.

Ma the head founder of Alibaba Group, called the Chinese business magnate and philanthropist. Also known as the richest man in China as of November 2014, and the 18th richest person in the world with its estimated net worth of $24.1 billion according to Wikipedia.  

Education:

  • In 1988, he graduated in Hangzhou Teacher’s Institute with a bachelor’s degree in English.
  • In the late 1980s, he started his career as lecturer/teacher in English and International Trade at the Hangzhou Dianzi University
  • Earned his MBA from Cheung Kong Graduate School of Business when he was already establishing Alibaba in early 2000.
  • Jack Ma also earned a Doctoral Degree with honors in addition to his MBA at Cheung Kong University.

What did the person worked on in the past and leading up to the present position?

Present Serve as Board member of SoftBank Corp., a major shareholder of Alibaba Group Holdings Limited and a Japanese corporation listed on Tokyo Stock Exchange.
Director of Huayi Brothers Media Corporation, an entertainment group in China listed on The Shenzhen Stock Exchange.
Chairman of The Nature Conservancy’s China board of directors.
2013 to Present Director of UCWeb Inc.
September 2013 Director of the Breakthrough Prize in Life Sciences Foundation
May 2013 Jack Ma stepped down as Chief Executive Officer.
2010 to Present Director of The Nature Conservancy
2007 to Present Director of SoftBank Group Corporation.
1999 Jack Ma founded Alibaba Group Holdings Limited
1999 to May 2013 Chairman, Chief Executive Officer and President of Alibaba Group Holdings Limited
Co-Founder of Yunfeng Capital and Yunfeng Fund II LP
1999 to Present Chief Executive Officer of Alibaba Taobao.com
Chief Executive Officer of Alibaba.com He was responsible for the overall strategy of Alibaba.com and Alibaba Group.
1998 to 1999 Ma headed an information technology company established by the China International Electronic Commerce Center (CIECC).
President of CIECC and became keen with the e-commerce needs of small and medium-sized businesses.
Early 1999 Ma left MOFTEC and launched Alibaba.
Ma began a career as an English teacher.
Chairman of Zhejiang Alibaba Finance Credit Network Technology Co., Ltd., Alipay (China) Information Technology Co. Ltd., Alibaba (China) Software Co. Ltd., Alipay Software (Shanghai) Co. Shangcheng (Shanghai) Commercial Factoring Co. Zhejiang Alibaba Cloud Computing, Hangzhou Alibaba Online Goods Trading Co., Chongqing Alibaba Small Loan Co., Beijing Yahoo Network Information Technology Co. Ltd., Inter China Network Software (Beijing) Co, and many other companies which he served as Chairman.
1995 Jack Ma founded China Pages.
May 1991 Founded Ever Team International Corp.
Mid 1990’s Mr. Ma sees a great business opportunity in technology.

 

Daniel Zhang, Chief Executive Officer

BABA Daniel Yong Zhang

Daniel Zhang is the Chief Executive Officer of Alibaba Group Holding Limited starting May 10, 2015. Mr. Zhang, the former Chief Operating Officer replaced Jonathan Lu who has a strong understanding of business.

Education

  • Bachelor’s Degree in Finance from Shanghai University of Finance and Economics.
  • Member of the Chinese Institute of Certified Public Accountants.

What did the person worked on in the past and leading up to the present position?

Apr 30, 2014, to Sep 7, 2015,

Mar 2014 to Present Non-Executive Director and Member of Strategic Committee of Haier Electronics Group Co.
Jul 2014 to Present Non-Executive Director of Intime Retail (Group) Company Limited
2015 Non-Executive Director, Health Information Technology Limited
2014 to Present Director of Weibo Corporation
Aug 2005 to Aug 27, 2007 Chief Financial Officer and Vice President of Shanda Interactive Entertainment.
Sep 2005 Financial Controller of Shanda Interactive Entertainment Ltd.
Aug 2007 to Jun 2011 Chief Financial Officer of Taobao
Since Jun 2011 President of Tmall.com and General Manager for 3 years.
2002 to 2005 Senior Manager at PricewaterhouseCoopers’ Audit and Business Advisory Division in Shanghai, China.

Maggie Wei Wu, Chief Financial Officer (CFO)

BABA Maggie Wei Wu

Ms. Maggie Wei Wu was the Chief Financial Officer of Alibaba lding Limited since May 2013 to the present. Ms. Wu joined the company in July 2007 as Chief Financial Officer of Alibaba.com and responsible in the establishment of financial systems and organization which lead to the initial public offering in Hong Kong.

Education

Ms. Wu has a Bachelor’s Degree in Accounting from the Capital University of Economics and Business.

What did the person worked on in the past and leading up to the present position?

October 2011 to May 2013 Served a Deputy Chief Officer of Alibaba Group Holdings Limited.
2012 Co-lead the privatization of Alibaba.com
2010 Voted as Best CFO in FinanceAsias’s Annual
Poll for Asia’s Best Managed Companies.
Prior to 2007 Became an audit partner at KPMG in Beijing.
Lead audit partner for IPO and some large capitalization companies listed in international capital markets. She provides audit and advisory services to major multinational corporations operating in China.
Member of the Association of Chartered Certified Accountant (ACCA)
Member of the Chinese Institute of Certified Public Accountants.

NUMBERS ANALYSIS

Equity and Retained Earnings

BABA Historical SHE RE

Facts:

  • The shareholders’ equity growth in the past five years was 1,861 percent.
  • Retained earnings growth in the past five years was 98 percent.
  • While shareholders’ equity dropped by 100.08 percent from 31.5 billion to -24 million CNY in 2013.
  • Equity rose by 122,000 percent from negative RMB 24 million to RMB 29 billion in 2014.
  • Moreover, equity rises again by 396 percent RMB 29 billion to RMB 145 billion in the trailing twelve months.
  • On the other hand, retained earnings in 2013 have dropped by 263 percent and suffered negative results of RMB 20 billion.
  • Retained earnings increased by 106 and 2000 percent in 2014 and 2015, respectively.

Explanation:

  • Acquisition of shares at RMB15.9 billion in 2013 deducted in shareholders equity.
  • And, repurchase and retirement of ordinary shares at RMB 45 billion deducted to shareholders equity. In addition, in 2013, a reduction in retained earnings at RMB 41 billion.
  • Deconsolidation of subsidiaries at 8.6 billion RMB added to equity in 2013.
  • Issuance of ordinary shares at 16.4 billion RMB in 2013 added to shareholders’ equity.
  • Net income of RMB 23.4 billion added to equity in 2014.
  • RMB 24.26 added to retained earnings in 2015.
  • Acquisition of subsidiaries at RMB 14.7 added to equity in 2015.
  • Amortization of compensation cost at RMB 13 billion in 2015 added to equity.
  • Proceeds from the issuance of ordinary shares – IPO at RMB 61.5 billion in 2015 added to shareholders equity.
  • Conversion of convertible preferred shares at RMB 10.3 billion in 2015 added to equity.

Interpretation

The shareholders’ equity and the retained earnings have increased significantly due to the company’s net income and also the proceeds from the issuance of ordinary shares during its IPO.

In addition, the decline from Fiscal 2012 to 2013 was primarily due to the repurchase of ordinary shares from Yahoo! in September 2012. Moreover, the privatization of Alibaba.com partially offset by the issuance of ordinary shares to finance the repurchase.

The Trend Graph

BABA SHE RE Trend

The graph above presents the historical movement of the company’s shareholders’ equity and retained earnings. Consequently, in Fiscal 2013 both the shareholders’ equity and retained earnings were below zero.

Historical Number of Shares Outstanding

BABA # of shares

The table above presents the historical shares outstanding from 2011 to the trailing twelve months. Ordinary shares of 149,220,834 issued on Alibaba’s IPO in September 2014.

VALUATION

BABA valuation model

Facts:

  • The book value growth rate of Alibaba in the past two years was 16 percent.
  • Future book value in 5 years was $25.77
  • While the average return on equity from 2007 to the trailing twelve months was 45.74.
  • In addition, the return on book value in five years was $11.78.
  • The price of the stock of Alibaba in five years was $403.01.
  • On the other hand, the present value of the stock was $174.23.
  • There was a zero percent dividend yield.
  • The risk used was 15 percent.
  • Moreover, the current price of the stock of Alibaba as of November 19, 2015, was $77.69 per share.
  • The intrinsic value of the stock of Alibaba was $104.54 per share.

Statement of Cash Flows

BABA Statement of CF

Facts:

  • The cash from operating activities was 50.70 CNY.
  • While capital expenditure was 7.7 billion CNY.
  • Also, the net cash used for investing activities was -31.7 billion CNY.
  • The net cash provided by financing activities was -10.6 CNY.

Explanation

  • The cash from operating activities was increasing year over year in the past five years at an average rate of 109 percent.
  • On the other hand, capital expenditures are the investment in properties, plant, and equipment.

Interpretation

Alibaba has decent net cash from operating activities and was increasing year over year. Further, the company has a free cash flow higher than the net income for five years. Therefore, it indicates that the company has good free cash flow and Alibaba is a healthy company.

Conclusion

Alibaba Group Holdings Limited (BABA) is a high growth and a healthy company. However, Alibaba has unusual corporate and ownership structures due to the laws and regulations brought about in China. Hence, investors in the US IPO might hesitate to buy shares of Alibaba China. Because they are buying shares in the Cayman Islands entity named Alibaba Group Holdings Company Limited. In addition, investors will not have direct ownership, but rather access to the profits. Furthermore, this may play a significant factor in making a decision on the stock of Alibaba Group Holdings Limited. A Hold position is recommended on the stock of Alibaba due to its ownership structures.

CITATION

http://www.sec.gov/Archives/edgar/data/1577552/000119312514333674/d709111df1a.htm#toc709111_11

https://www.sec.gov/Archives/edgar/data/1577552/000104746915005768/a2225010z20-f.htm

http://www.alibabagroup.com/en/about/overview

http://www.alibabagroup.com/en/about/history

https://www.sec.gov/Archives/edgar/data/1577552/000119312514184994/d709111df1.htm#toc709111_2

http://www.alibabagroup.com/en/about/history

Researched and Written by Criselda

Twitter: criseldarome

Ensco PLC Class A Continues to Grow

November 28th, 2013 Posted by Investment Valuation No Comment yet

Ensco PLC Class A (ESV) Investment Valuation.

Ensco PLC Class A

About Ensco

Ensco PLC Class A (ESV) is the leader in customer satisfaction and the second largest offshore drilling company. The company started trading as Energy Services Company, Inc. (formerly Blocker Energy Corporation) and the company’s growth increased through the acquisition of Penrod Drilling (1993) and Dual Drilling (1996). The company raised capital through public offerings to purchase and refurbish equipment. The company expanded from the contract drilling business into various associated businesses including a tool and supply company, engineering services and the marine transportation business. Ensco focuses solely on offshore drilling with a premium fleet, they divested marine vessels, platform rigs and the majority of barge rigs. Through new construction and acquisitions, the company grew their jack-up rig fleet and entered the developing ultra-deepwater market.

Ensco Company History

The Gulf of Mexico.2009Ensco’s deepwater strategy became a reality with the first two ENSCO 8500 Series® ultra-deepwater rigs successfully commencing operations in the U.S.

Ensco high graded its fleet by acquiring ENSCO 109, a Mod V Super B high-spec jack-up built in 2008 and divesting four backups.2010Two more ENSCO 8500 Series® rigs were delivered.

1995 The company changed their name to ENSCO International Incorporated and listed their shares on the New York Stock Exchange under symbol ESV.
2000 The ENSCO 7500 was the company’s first ultra-deepwater semisubmersible was delivered and was followed by a multi-billion dollar capital commitment to eventually construct seven ENSCO 8500 Series® ultra-deepwater rigs.
Late 2009 The company redomiciled to the United Kingdom and opened a new global headquarters in London in early 2010.
May 2011 Ensco acquired Pride International to create the second largest offshore driller in the world with operations spanning six continents.

How does Ensco Plc make money? 

Ensco plc (NYSE: ESV) is a global provider of offshore drilling services to the petroleum industry. ESV is operating the world’s newest ultra-deepwater fleet and largest fleet of active premium jack-ups.

ESV pics

The company is operating on six continents, their high-quality fleet includes:
  • 10 drillships,
  • 13 dynamically-positioned semisubmersibles,
  • 6 moored semisubmersibles and
  • 46 premium jack-ups.

ESV provide drilling management for three customer-owned deepwater rigs. Their rigs have drilled some of the most complex wells in virtually every major offshore basin around the globe. Ensco’s customers are multinational integrated energy companies, national oil companies, and independent operators.

Who is Running the Business? 

Daniel W. Rabun Chairman, President, and Chief Executive Officer   

ESV CEO Daniel Rabun

Daniel W. Rabun joined Ensco in March 2006 as President and as a member of the Board of Directors. Mr. Rabun was appointed to serve as our Chief Executive Officer effective January 1, 2007, and elected Chairman of the Board of Directors in May 2007. Prior to joining Ensco, Mr. Rabun was a partner at the international law firm of Baker & McKenzie LLP where he had practiced law since 1986, except for one year when he served as Vice President, General Counsel and Secretary of a company in Dallas, Texas.

Further, Mr. Rabun provided legal advice and counsel to us for over fifteen years before joining Ensco and served as one of our directors during 2001. He has been a Certified Public Accountant since 1976 and a member of the Texas Bar since 1983. Furthermore, Mr. Rabun holds a Bachelor of Business Administration Degree in Accounting from the University of Houston and a Juris Doctorate Degree from Southern Methodist University. He served as Chairman of the International Association of Drilling Contractors in 2012.

Jay W. Swent Executive Vice President and Chief Financial Officer   

   ESV CFO Jay W. Swent

James W. Swent III joined Ensco in July 2003 and was elected Executive Vice President and Chief Financial Officer in July 2012. Prior to his current position, Mr. Swent served as Senior Vice President—Chief Financial Officer. Prior to joining Ensco, Mr. Swent served as Co-Founder and Managing Director of Amrita Holdings, LLC since 2001. Mr. Swent previously held various financial executive positions in the information technology, telecommunications, and manufacturing industries, including positions with Memorex Corporation and Nortel Networks.

Further,

Mr. Swent served as Chief Financial Officer and Chief Executive Officer of Cyrix Corporation from 1996 to 1997 and Chief Financial Officer and Chief Executive Officer of American Pad and Paper Company from 1998 to 2000. Mr. Swent holds a Bachelor of Science Degree in Finance and a Master Degree in Business Administration from the University of California at Berkeley.

Ensco Liquidity and Solvency 

ESV liquidity

The table above shows the liquidity ratios which is the current ratio and the quick ratio is averaging 2.57 and 2.25, respectively. The rule of thumb is 2.0 and 1.0 for current and quick ratio, respectively. The results of the ratio mean, that Ensco PLC Class A has the ability to pay its short-term debt using its current assets. .On the other hand, the solvency ratio was averaging 2.05 or 205 percent. Solvency ratio is calculated on total net income plus depreciation over total debt (short term and long term debt).

Explanation

It indicates that the company has 205 percent net revenue against its total debt. The ratio was decreasing from 2008 to 2011 because the company experiences a  145 percent drop in its net revenue. However, managed an increase in the succeeding years at a rate of 44 and 8 percent, respectively. Moreover, the leverage ratio was averaging 0.18 or 18 percent, this is the percent of the total debt against the total shareholders’ equity. In 2011, the ratio increased by 86 percent but nevertheless, the ratio is only a quarter of the shareholders’ equity. To sum all the results of the company’s solvency, it indicates that Ensco PLC Class A is capable of paying its long-term financial debt and it tells us that the company is financially healthy.

Ensco Profitability 

ESV Profitability

The gross margin ratio was averaging 56.18 percent while the net margins were averaging 32.85 percent. It indicates that Ensco PLC Class A was efficient in generating revenue for its business operations. The company is profitable and financially healthy.

Ensco Cash Flow Statement 

ESV CF

Ensco PLC Class A has an average 0.46 or 46 percent cash flow margins.  Cash flow margins are cash from operating activities as a percent of gross revenue. It indicates that the company has sound cash that was left for future investments and for paying dividends. The company has also a free cash flow of $267.33 million cash for this purpose.

The Relative Valuation Method 

ESV Relative

Going forward, the book value per share was averaging $44.21. If you will notice the book value was increasing yearly from 2008 to trailing twelve months at an average 10.4 percent and this is a good sign of the company’s profitability.  On the other hand, the price to earnings and the earnings per share was averaging $10.35 and $5.22, respectively. Moreover, the Price to earnings is the price that the investors are willing to pay for the company’s earnings while the EPS represents the company’s net earnings allocated to each share of common stock. Another, the return on equity was averaging 13.52 percent, it represents the percentage of profit that the company generates for the investment that the investors have put into the company.

The Discounted Cash Flow (DCF) Method 

ESV DCF

By using the discounted cash flow spreadsheet based on the 5 years financial data, the get the present value of $88.26 per share or a total value of $20.3 billion. Moreover, the future value was $177.53 per share and with a total value of $40.8 billion. In other words, if you were to invest $88.26 today at a rate of 11.49 percent, you will have $177.53 at the end of five times period.

In addition, the future value of $177.53 is equal to the present value of $88.26. Accepting an amount higher than $88.26 today and taking $177.53 at the end of 5 years, you would have taken the money today. By doing this, you will be able to invest at a higher amount at 11.49 percent equal to five years period. This will end up giving you higher than $177.53.  Furthermore, the calculated net income at year five was $19.64 with a total value of $4.5 billion.

Summary of the calculation

Growth 10.33%
Yield 3.07%
Value of appreciation $35.31
Value dividend $36.65
Total value $71.95
Market price $59.69
Price investors are willing to pay $197.93

The growth of book value was 10.33 percent and the yield was 3.07 percent. The calculated value of appreciation was $35.31, this is equivalent to the margin of safety, the Buffett style. In addition, the calculated value dividend was $36.65.  On the other hand, adding value dividend and the value of appreciation will give us a total value of $71.95.  Ensco PLC Class A stock has a total value higher than the current market price. Therefore, the stock is trading at an undervalued price. The price that the investors are willing to pay was $197.93 per share.

Conclusion

Finally, Ensco PLC Class A has a good business history from the beginning and continue to show its profitable progression. Further, the company’s CEO and CFO have done a satisfactory performance in the company from the time they joined ESV. Further, with regards to the fundamentals, it shows that the company was financially healthy and with little debt. The company is capable of generating cash that can be utilized for future expansion and for paying dividends. The Benjamin Graham method tells us that the stock is trading at a discount and undervalued. In addition, the Warren Buffett method of valuing stock shows that the stock of ESV was undervalued. Therefore, I recommend a BUY on the stock of Ensco PLC Class A.

CITATION 

Researched and written by Criselda

Twitter: criseldarome

 

Apple Inc (AAPL) Investment Valuation

November 17th, 2013 Posted by Investment Valuation No Comment yet

The Apple Inc (APPL) company research is a written document and published for our readers to guide them with their investing and make better decisions as to what stocks to Buy.

Company Profile

Apple Inc (AAPL) is an American technology company, headquartered in Apple IncCupertino, California. AAPL manufactures, designs, and markets communication devices to consumers, businesses and also in government entities. It is the top information technology serving the globe. Steve Jobs, Steven Wozniak, and Ronald Wayne incorporated Apple Inc (AAPL) on January 3, 1977. After three months of incorporation, Wayne sold his shares for $800. Wozniak and Jobs were high school friends, both were interested in electronics.

How does the Company Make Money?  

Apple Inc. designs manufacture and market mobile communication and media devices, personal computers and portable digital music players and related accessories. The Company’s products and services include iPhone, iPad®, Mac, iPod, Apple Watch, Apple TV, iOS, OS X and watchOS operating systems, iCloud, Apple Pay.
   apple-inc-appl
The Company sells its products worldwide through its retail stores, online stores, and direct sales force, as well as through third-party cellular network carriers, wholesalers, retailers and also value-added resellers.

Who is Running the Business? 

Timothy Cook, Chief Executive Officer 

AAPL Timothy Cook

 

Historical Events
  • In August 2011, Tim was Apple’s Chief Operating Officer and was responsible for all of the company’s worldwide sales and operations, including end-to-end management of Apple’s supply chain, sales activities, and service and support in all markets and countries.
  • He also headed Apple’s Macintosh division and played a key role in the continued development of strategic reseller and supplier relationships, ensuring flexibility in response to an increasingly demanding marketplace.

Further,

  • Prior to joining Apple, Tim was vice president of Corporate Materials for Compaq and was responsible for procuring and managing all of Compaq’s product inventory.
  • Previous to his work at Compaq, Tim was the chief operating officer of the Reseller Division at Intelligent Electronics.
  • Tim also spent 12 years with IBM, most recently as director of North American Fulfillment where he led manufacturing and distribution functions for IBM’s Personal Computer Company in North and Latin America.
  • Tim earned an M.B.A. from Duke University, where he was a Fuqua Scholar and a Bachelor of Science degree in Industrial Engineering from Auburn University.

Peter Oppenheimer, Senior Vice President, and Chief Financial Officer 
AAPL Peter Oppenheimer

Peter Oppenheimer is Apple’s Senior Vice President and Chief Financial Officer. As CFO, Oppenheimer oversees the controller, treasury, investor relations, tax, information systems, internal audit and facilities functions. He reports to the CEO and serves on the company’s executive committee.

 

Historical Events

  • Oppenheimer started with Apple in 1996 as a controller for the Americas, and
  • in 1997 was promoted to vice president and Worldwide Sales controller and then to corporate controller.
  • Oppenheimer joined Apple from Automatic Data Processing (ADP), where he was CFO of one of the four strategic business units. In that capacity, he had responsibility for finance, MIS, administration, and the equipment leasing portfolio.

Further,

  • Prior to joining ADP, Oppenheimer spent six years in the Information Technology Consulting Practice with Coopers and Lybrand where he managed financial and systems engagements for clients in the insurance, telecommunications, transportation and banking industries.
  • Oppenheimer received a bachelors degree from California Polytechnic University, San Luis Obispo and an M.B.A. from the University of Santa Clara, both with honors.

Do you trust the people and are they competent?     

With Apple’s governance structure, the two senior officers, Timothy D. Cook, and Peter Oppenheimer have the ability to meet the standards of making business success through a high measure of responsibility.   For these reasons, I do trust them and they have the necessary skills and the ability for the success of Apple Inc.

Apple Inc Value Investing Guide

Apple Inc Balance Sheet

Liquidity and Solvency

In the financial analysis of a business, solvency can refer to how much liquidity a company has.  When referencing to the company’s ability to service debt, liquidity refers to the ability of the company to pay its short-term financial obligations, it also refers to the company’s capability to sell its assets quickly to raise funds. On the other hand, solvency is the company’s ability to meet its long-term financial obligations. A solvent company is one that owns more than it owes; in other words, its assets is higher than its liabilities.

AAPL Liquidity

Analysis

  • The table above shows that the current ratio of Apple Inc was averaging 1.89 or 1.89:1, this indicates that Apple Inc has $1.89 of current assets for every $1 of current liabilities.
  • On the other hand, the quick ratio was averaging 1.62 the rule of thumb is 1. This indicates that Apple has enough liquid resources to pay the short-term debt. In other words, it shows the capability of Apple to meet short-term financial obligations.
  • Going forward, the solvency ratio is the capability of the company to meet its long-term financial obligations.  Apple has a 2.58 solvency ratio in 2012 and 2013.  It indicates that debt exceeds equity by more than twice.

Apple Inc Income Statement

Profitability    

Gross profit margin is a measure of profitability indicating how much of every dollar of profit is left over after deducting the cost of goods sold. While net profit margin is the percentage of income remaining, after the operating expenses, interest, taxes and preferred stock dividends have been deducted from gross profit.

AAPL ProfitabilityAnalysis

  • Apple’s gross margin and net margin was averaging 39.85 and 22.59 percent, respectively, this shows good profit margins. It also indicates the financial success and viability of Apple’s products and services.
  • Net margins measure the percentage of revenue that was left after deducting all of the expenses of the company. Same as how much cash was earned during a certain period.
  • To sum it up, it indicates that Apple Inc is financially sound and efficient in generating sufficient revenue for its business operation.

Apple Inc Cash Flow Statement    

AAPL CF

The Cash Flow Margin measures the efficiency of a company to convert its sales into cash.

  • The cash flow margin was averaging 0.30 or 30 percent. Cash flow margin is cash from operating activities as a percentage of sales.   The formula was cash from operating activities over total sales.
  • Moreover, Apple’s free cash flow was averaging $31.0 million. It tells us that the company was able to generate cash for future investments.

Apple Inc Investment Valuation 

The following model of equity valuation adopts the investment style of Benjamin Graham, the father of value investing. In essence, Graham said, any investment should be worth more than the investor has to pay for it.  Graham’s valuation looks for undervalued companies whose stock price is lesser than the cost.

AAPL Graham

Explanation

  • The sustainable growth rate (SGR) was averaging 38.75 percent, this is the maximum rate that Apple could grow limited to using its own generated revenue and without using additional funds from creditors or investors. In other words, it is the maximum rate that Apple can sustain its operation internally. SGR also measures the profitability of the company by comparing net income and shareholders equity. According to Investopedia, SGR is a good measure to plan long-term growth, actual acquisitions, cash flow projections, and borrowing strategies.
  • Moreover, the calculated margin of safety using the Benjamin Graham method was 86 percent in 2013 trailing twelve months. In other words, it passed Graham’s requirement of at least 40-50 percent below the intrinsic value or the true value of the stock. The margin of safety provides an allowance against errors in the analysis or calculation, hence there is a different style in calculating an intrinsic value that can impact the result of the margin of safety.
  • In addition, the market price to date, November 13, 2013, was $520.01 per share with $467.9 billion market capitalization.

The Relative Valuation Methods   

The relative valuation methods for valuing a stock is to compare the market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.
AAPL Relative

Explanation

Let us understand what the relative valuation tells us.

  • The book value per share was averaging $95.06, in 2013, rise to $137.32, and the growth of 291 percent in five years.
  • While the Price to Earnings ratio was averaging $15.17, this is the price that the investors are willing to pay for Apple’s earnings.
  • In addition, earnings per share were averaging $29.26, this represents the company’s net earnings allocated to each share of common stock.
  • The return on equity was averaging 35.39 percent, this indicates how much profit Apple generates with the investment that the shareholders’ have invested.
  • Overall, it shows that Apple Inc was profitable.

Discounted Cash Flow Method   

The discounted cash flow analysis uses the free cash flow projections and discounts them to arrive at the present value.
AAPL DCF

Explanation

  • The discounted cash flow method shows that the present value of Apple’s equity was $1,012 per share and the total value was $943 billion.
  • The calculated future value was $2,341 per share with a total value of $2.1 trillion. This means, if you were to invest $1,012 today at a rate of 28 percent, you would have $2,341 at the end of six time periods or at the end of year 6. In other words, a future value of $2,341 is equal to a present value of $1,012. If you had a choice between taking an amount higher than the $1,012 today and taking the $2,341 at the end of six years, you should take the money today. Doing this, you would be able to invest at a higher amount at 28 percent for equal 6 years period, which would end up giving you more than $2,341.
  • The calculated net income for year 5 was $198 per share or $185 billion in total value.

Warren Buffett Approach

Totem also adopts the Warren Buffett method using the financial calculator in our equity selection.  The table below indicates a summary of the calculations.
AAPL Buffett

Explanation

Warren Buffett approach indicates that Apple Inc stock price was undervalued. In addition, the margin of safety or the value of appreciation was $404.83 per share. Furthermore, the value dividend was $236.33 per share, therefore, giving us a total value of $641.17 per share. Comparing $641.17 with the market price of $520.56, November 13, 2013, shows that Apple Inc stock is undervalued. The price is undervalued because the market price is less than the total value.  Furthermore, the price that the investors are willing to pay was $2309.20 per dollar of earnings.

In Conclusion

The liquidity and solvency tests indicate that Apple Inc was financially stable and sound. While the profitability ratios and also the cash flow margins tell us that AAPL was capable of generating sufficient revenue. The company has money left for paying dividends and for future investments. Furthermore, the margin of safety and the sustainable growth rate using the Graham method has acceptable results. In addition, the discounted cash flow approach indicates a future value of $2,341 per share. When it comes to Warren Buffett method, it shows that Apple Inc stock is trading at an undervalued price.  Therefore, I recommend a BUY on Apple Inc stock.

CITATION

Researched and Written by Criselda

Twitter: criseldarome

Is Cisco Systems Inc (CSCO) A Good Buy?

October 23rd, 2013 Posted by Investment Valuation No Comment yet

Cisco Systems Inc (CSCO) was incorporated on December 10, 1984, is the worldwide leader in networking that transfigures how people connect, communicate and collaborate. CSCO is an American multinational corporation with the main office in San Jose, California.

CISCO logo

How does the company make money? 

CSCO Products

Products

Cisco Systems, Inc. (CSCO) main activities were, they design to manufacture, and sells Internet protocol (IP)-based networking. And also other products that have something to the communications and information technology (IT) industry. In addition, CSCO provides services in line with these products. Further, the Company provides a number of products for transporting data, voice, and video within buildings, across campuses, and around the world. Likewise, the company’s products are designed to alter how people connect, communicate, and collaborate. Furthermore, the products are installed at enterprise businesses, public institutions, telecommunications companies, commercial businesses, and personal residences.

The Company is operating in five segments

  • The United States and Canada,
  • European Markets,
  • Emerging Markets, Asia Pacific, and Japan.
    • The emerging markets theater consists of Eastern Europe, Latin America, the Middle East and Africa, and Russia and the Commonwealth of Independent States.

 The Company’s product offerings fall into three categories:

  • Its core technologies, routing, and switching;
  • advanced technology and other products.
  • The Company provides a range of service offerings,
  • Technical support services
  • Advanced services program which supports networking devices, applications, solutions, and complete infrastructures.

Historical events

  • On July 30, 2012, the company acquired NDS Group Ltd.
  • In October 2012, it acquired virtual networking company, vCider.
  • August 2011, the Company acquired Versly.
  • November 2011, it acquired BNI Video.
  • March 2012, the Company acquired Lightwire, Inc.
  • May 2012, the Company acquired ClearAccess. In December 2012, the Company acquired Cloupia.
  • December 2012, the Company acquired Cariden Technologies Inc.
  • December 2012, the Company acquired Meraki, Inc.

Furthermore,

  • Effective January 31, 2013, the Company acquired Cariden Technologies Inc.
  • Effective February 13, 2013, the Company acquired BroadHop Inc.
  • February 2013, it acquired Intucell.
  • May 2013, the Company acquired Ubiquisys.
  • July 2013, Cisco Systems Inc announced it has completed the acquisition of privately held JouleX, an enterprise IT energy management for network-attached and data center assets.
  • July 2013, the Company announced that it has completed the acquisition of Composite Software, Inc.
  • October 2013, Cisco Systems Inc completed the acquisition of Sourcefire, Inc.

The Company’s product offerings fall into three categories

  • Core technologies, routing, and switching;
  • advanced technologies,
  • and other products.
  • In addition to its product offerings, the Company provides a range of service offerings, technical support services, and advanced services. The advanced services program supports networking devices, applications, solutions, and complete infrastructures.

Who is running the business?

The Chairman of the company has the overall responsibility for the operation of the corporation while the Chief Financial Officer was responsible for the financial control and planning of a firm or project. These two great men of Cisco Systems Inc have contributed a very significant effort for the success of the corporation.

John T. Chambers, Chairman, and Chief Executive Officer

Cisco System Inc

John Chambers is the Chairman and CEO of Cisco. He has helped in the growth of the company from $70 million when he joined Cisco in January 1991, to $1.2 billion when he assumed the role of CEO, to record revenues of $48.6 billion in FY13. In 2006, Chambers was also the Chairman of the Board, in addition to his CEO role.

 

Awards

The various awards received by Mr. Chambers for his leadership over his past 18 years at the headship of Cisco:

  • The 2012 Bower Award for Business Leadership from the Franklin Institute,
  • Time Magazine’s “100 Most Influential People,”
  • One of Barron’s’ “World’s Best CEOs,
  • The “Best Boss in America” by 20/20,
  • One of BusinessWeek’s “Top 25 Executives Worldwide,”
  • “CEO of the Year” by Chief Executive Magazine,
  • The Business Council’s “Award for Corporate Leadership,” and
  • “Best Investor Relations by a CEO” from Investor Relations Magazine three times.

Further,

  • During his tenure as CEO, Cisco has been named to Fortune’s “America’s Most Admired Company” list since 1999 ranking number one in the Network Communications category eight times,
  • BusinessWeek’s “Top 50 Performers” list six times,
  • Forbes’ “Leading Companies in the World,”
  • And is one of the top 10 places to work in the United States, China, Germany, France, India, UK, Australia, Singapore, and several other countries.
  • Chambers has been widely recognized for his and Cisco’s philanthropic leadership,
  • including receiving the U.S. State Department’s top corporate social responsibility award (ACE) twice, from both Secretary of State Hillary Clinton in 2010 and former Secretary of State Condoleezza Rice in 2005.
  • He also received the first-ever Clinton Global Citizen Award from former U.S. President Bill Clinton and has been awarded the Woodrow Wilson Award for Corporate Citizenship,
  • and the prestigious Excellence in Corporate Philanthropy Award, an award given by CEOs to their CEO peers.

Chambers corporate social responsibility worldwide

  • Recent partnerships include working with the Palestinian ICT sector growing ICT from .8% to over 5% of GDP in 2 years;
  • Connecting Sichuan, an effort to help rebuild healthcare and education models in the Sichuan,
  • China region impacted by the May 2008 earthquake.
  • Mr. Chambers also cosponsored the Jordan Education Initiative, which Cisco has worked on in partnership with His Majesty King Abdullah II of Jordan and the World Economic Forum.
  • In late 2006, Chambers co-led a delegation of U.S. business leaders, in partnership with the U.S. State Department, to form the Partnership for Lebanon, helping provide critically needed resources for ongoing reconstruction in Lebanon.

Further,

  • Chambers has also spearheaded several other education initiatives, including the 21st Century Schools Initiative, to improve education and opportunity for children in the Gulf Coast Region affected by Hurricane Katrina.
  • He has served two American presidents, most recently as Vice Chairman of the President George W. Bush National Infrastructure Advisory Council (NIAC), where he provided industry experience and leadership to help protect the United States’ critical infrastructure.
  • He also served on President George W. Bush’s Transition Team and Education Committee, and on President Bill Clinton’s Trade Policy Committee.

History

  • Chambers joined Cisco in 1991 as Senior Vice President, Worldwide Sales, and Operations.
  • He assumed the role of President and CEO in 1995.
  • Prior to joining Cisco, he spent eight years at Wang Laboratories (1982-1990) and
  • six years with IBM (1976-1982).
  • Further, he holds a Bachelor of Science / Bachelor of Arts degree in business and a law degree from West Virginia University and a master of business administration degree in finance and management from Indiana University.

Frank Calderoni, Executive Vice President & Chief Financial Officer 

   CSCO Frank Calderoni

Frank Calderoni is the Executive Vice President and Chief Financial Officer (CFO) at Cisco. Mr. Calderoni is managing the financial strategy and operations of a company with more than 72,000 employees. During his management with CISCO, the total revenue was $46 billion for the fiscal year 2012. Mr. Calderoni was committed to maximizing long-term shareholder value, ensuring a balanced portfolio of growth initiatives, and maintaining the high level of integrity and transparency for which Cisco is known.

Achievements

  • Previously as Cisco’s Senior Vice President, Customer Solutions Finance, he manages to be effective and efficient in bringing a profitable growth, disciplined decision making, and transparency in Cisco’s reporting.
  • He led the efforts to create and define the value chain for the sales and services model from which organization, staffing, compensation plans, targets, territory definition, and sales goals could be derived.
  • He was responsible for the decision support model on investments related to sales, services, and marketing, including acquisitions.

History

  • In 2004, Calderoni joined Cisco from QLogic Corporation, where he was the Senior Vice President and CFO.
  • Prior to that, he was the Senior Vice President, Finance and Administration and CFO for SanDisk Corporation.
  • He spent 21 years at IBM Corporation and was promoted to Vice President prior to taking on two CFO roles.
  • At IBM he held Controller responsibilities for several divisions, including Global Small Business, Storage Systems, and the IBM Server Group.
  • Calderoni is an active volunteer, and he sits on the board of the Children’s Discovery Museum of San Jose.
  • He has been recognized as the 2013 Bay Area CFO of the Year.
  • Calderoni has also been awarded the 2012 Excellence Award for Leadership in Finance for North America,
  • And was considered one of the Best CFO’s in 2012 from the Institutional Investor.

Education

  • Calderoni holds a bachelor’s degree in accounting and finance from Fordham University and a master of business administration degree in finance from Pace University.
  • He sits on the Board of Directors for Adobe Systems and Nimble Storage.

Do you trust the people and are they competent?

The incredible profiles of these two brilliant men of Cisco, who would ever say that they are not competent?   John T. Chambers, Chairman, and CEO has been awarded several times for his 18 years philanthropic leadership and contributed to the growth of Cisco. Frank Calderoni, Executive Vice President and CFO of Cisco has been successful in managing the financial strategy and operations of the company, hence bringing profitable growth to Cisco.

CSCO Value Investing Guide 

The Balance Sheet 

Liquidity and Solvency

Solvency and liquidity are a measure which refers to the company’s state of financial health, but with some substantial differences. This measure is both important measures, and healthy companies are both solvents and have adequate liquidity. Solvency refers to a company’s capacity to meet its long-term financial obligations. On the other hand, liquidity means that the company has the ability to pay short-term financial obligations. It also refers to the company’s capability to sell assets quickly to produce cash. Likewise, a solvent company is one that owns more than it owes; in other words, it has a positive net worth and an average debt that can be paid when the due date comes.

CSCO Liquidity

Explanation

Looking at the table above, the current ratio was averaging 3.09. The rule of thumb is 2.0 and the result obviously tells us that CSCO is in a good situation financially. In other words, it has $3.09 of current assets for every dollar of current liabilities. It indicates that the company has the ability to meet short-term obligations, in other words, the company has enough resources to pay its debts over 12 months. Further, the quick ratio or sometimes called the acid test ratio was averaging 2.78. The rule of thumb is 1.0. This again indicates that CSCO is in a good position when it comes to liquidity. In other words, the company has the ability to pay its short-term debt using cash and near cash assets.

Interpretation

Going forward, let us examine what the solvency ratios tell us. The table shows that the solvency ratio was averaging 0.82 or 82 percent. The rule of thumb is 20 percent. This indicates that Cisco Systems Inc has the ability to meet its long-term obligations. Solvency ratio is calculated by net earnings after tax plus depreciation and amortization over its total debt. Therefore, it indicates that Cisco Systems Inc is financially healthy. Moreover, the leverage ratio was averaging 0.29 or 29 percent. This again indicates that the company is really in good standing. This ratio measures how much debt is being used against the shareholders’ equity. Overall, it indicates that Cisco Systems Inc is financially healthy.

CSCO Income Statement

Profitability 

Gross profit margin measures how much of every dollar of revenues is left over after paying the cost of goods sold. While net profit margin is the percentage of revenue remaining, after all, operating expenses, interest, taxes and preferred stock dividends (but not common stock dividends) have been deducted from a company’s total revenue.

CSCO Profitability

Explanation

Going further, the gross margin ratio was averaging 62.6 percent. This indicates a good standing, in other words, this is the profit retained by the company after the direct costs of producing its products are deducted. The Net Margin tells us that it has an average of 18.29 percent. It means that 18.29 was retained in the profits after deducting all of the expenses of the company for a period of time.  Overall, it indicates that the CSCO is financially healthy

CSCO Cash Flow Statement 

The Cash Flow Margin is a measure of how efficiently a company converts its sales dollars into cash. Since expenses and purchases of assets are paid by cash, this is an extremely useful and important profitability ratio. It is also a margin ratio.

CSCO CF

Facts:

The above table shows that the cash flow margin was averaging 0.27 or 27 percent. Therefore, it indicates that CSCO is efficient in converting its revenue into cash. While the Free Cash Flow was averaging $10.13 billion. CSCO is able to generate sufficient revenue from its operation. Moreover, the company has available cash that can be used in paying dividends and for future investments. Finally, it indicates that CSCO is financially healthy.

CSCO on Investment Valuation 

The Totem Investment model in the valuation of equity adopts the investment style of Benjamin Graham, the Father of value investing. The essence of Graham Value Investing is that any investment should be worth much more than an investor has to pay for it. Graham believed in the complete analysis, which we call fundamental analysis.  Even more, he was looking for companies with a sound balance sheet or those with little debt, above average profit margin and acceptable cash flow. His philosophy was to buy wisely when prices fall and to sell wisely when the price increase a great deal.

Benjamin Graham Method

CSCO BG

Explanation

The Sustainable Growth Rate (SGR) was averaging 19.86 percent. This is the measure of how fast a company can grow. In other words, this is the rate where the company can sustain its operations internally without using additional borrowed funds or equity. In addition, in the calculation of Sustainable Growth Rate, you need to know the company’s return on equity, it’s earning per share, and its payout ratio.  Formula:

                               Sustainable growth rate = ROE x (1 – dividend-payout ratio)

It shows that the margin of safety was averaging 75.83 percent. This formula is used to identify the difference between company value and price. In other terms, it is the difference between the real value of the stock and the market price. Consequently, the result indicates that it passed the requirement of Graham of at least 40 percent margin of safety. Therefore, the stock is a good candidate for a Buy.

CSCO Relative Valuation Methods

The relative valuation methods in valuing stock of a company are to compare market values of the stock with the fundamentals like the earnings, book value, growth multiples, cash flow, and other metrics.

CSCO Relative

Facts

  • The current book value per share was $10.98 and averaging $8.25 per share.
  • The price to earnings ratio in the trailing twelve months (ttm) was $12.2 per share and averaging $15.35 per share.
  • The earning per share at trailing twelve months was $1.87 and averaging $1.38,
  • The return on equity at trailing twelve months was $18.08 and was averaging $18.1 per share.

Overview, it indicates that Cisco Systems Inc has a good measure of profitability, it also indicates that the company was able to generate a favorable and stable return on the invested capital.

CSCO Discounted Cash Flow Method 

The discounted free cash flow analysis uses the free cash flow projections and discounts them to arrive at the present value. In this analysis, I used five years of historical financial data to arrive at the present value and future value.

CSCO DCF

Explanation

  • Capitalization rate that was used was 15 percent.
  • Return on investment was averaging 18.10 percent.
  • Price to Earnings used was the 15.85 ratio.
  • The present value of CSCO was $28.62 per share a total value of $154.6 billion.
  • Further, the future value was $56.56 per share a total value of $311 billion.
  • Furthermore, net income at year 5 was $4.36 per share at a total value of $23.56 billion.

The Warren Buffet  Method

Totem also adopts the Warren Buffet method using the financial calculator in the company’s equity selection.  The table below is the summary of the calculations.

CSCO Buffett

Facts

  • The equity growth was 13.5 percent while the dividend yield was 7.79 percent.
  • The calculated value of appreciation was $11.45 per share, this is equivalent to Warren Buffett’s margin of safety or 40 percent of the calculated present value.
  • Further, the computed value dividend was $35.49
  • And also the computed total value was $46.77. per share.
  • The price that the investor is willing to pay was $64.97.
  • Furthermore, the market price of Cisco Systems Inc to date, October 23, 2013, was $22.65 per share.  If we compare this to the total value of $46.77 per share, it indicates that the stock is trading at an undervalued price, therefore, a good candidate for a Buy.

Conclusion 

Above all, the liquidity and solvency ratios, as well as the profitability ratios, tell us that CSCO is in good standing and financially sound. Moreover, the cash flow margins and the free cash flows indicate that the company has the ability to generate sufficient revenue. And also has available funds left for future investments and for payment of dividends. Furthermore, the investment valuation shows that the margin of safety of 76 percent using the Benjamin Graham method has passed the requirement of at least 40 percent. In addition, the company has 20 percent able to sustain its operation internally without issuing additional debt and equity. Noteworthy, CSCO has positive earnings rising all throughout the period of 10 years.  Overall, the company is financially healthy.

Furthermore,

The discounted cash flow method indicates that the present value was $28.62 which is 62 percent above the book value to date.  On the other hand, the computed total value was higher than the market price, therefore, it tells us that the stock of CSCO is trading at an undervalued price hence, a good candidate for a Buy.  I, therefore, recommend a BUY on the stock of Cisco Systems Inc.

CITATION 

Researched and Written by Criselda

Twitter: criseldarome

Berkshire Hathaway Inc (BRK.B) Investment Valuation

July 17th, 2013 Posted by Investment Valuation No Comment yet

Berkshire Hathaway Inc (BRK.B), incorporated on June 16, 1998, is a holding company owning subsidiaries engaged in a number of diverse business activities.

BRK.B

BRK.B Value Investing Approach 

Our basis of valuation is the company’s five years of historical financial records; the balance sheet, income statement, and cash flow statement. Moreover, this is a great measure of the total value of a firm. It is often great starting points for negotiation of a business.

BRK.B Investment in Enterprise Value  

BRK EV        

Explanation

The market capitalization of Berkshire Hathaway Inc was trending up at a rate averaging 228 percent. In other words, the current price rises 84 percent from 2008 to 2012. In 2009, the price dropped 90 percent from 2008 but managed to rise by 1193 percent the following year.  The total debt was averaging 31 percent and the cash and cash equivalent was averaging 22 percent.  If you are the investor and you are planning to buy the entire business of BRK.B, then you would be paying 90 percent of equity and a 10 percent total debt because cash was less than the debt.

Further, the takeover price of the entire business of BRK.B  to date, July 6, 2013, was $288 billion at $112.63 per share. The market price to date was $114.96 per share.

Net Current Asset Value (NCAV) Method            

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

BRK NCAVPS

Explanation

The net current asset value approach tells us that the stock price of BRK.B was trading at an overvalued price. For the reason that the market price was greater than the 66 percent ratio.  The 66 percent ratio was only 14 percent of the market price.

As we can see, the results indicate that BRK.B stock did not pass the stock test because it traded above the liquidation value of the company. Therefore, the price is said to be expensive.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation   

Another stock test by Graham is by using market capitalization and dividing it to net current asset value (NCAV).  The idea is, if the result does not exceed the ratio of 1.2, then the stock passes the test for buying.          

BRK MC NCAV

The MC/NCAV valuation shows that stock price was overvalued from 2008 up to the trailing twelve months. For the reason, its ratio exceeded the 1.2 ratios.  Meaning the price was expensive.

 BRK.B margin of Safety (MOS)             

The margin of safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole. This formula is used to identify the difference between company value and price.

BRK MOS

Explanation

The margin of safety was averaging 36 percent,  this means that if you are buying the stocks of BRK.B you have insufficient security. Below is the formula for intrinsic value as this factor the calculations for the margin of safety.

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate)               

Explanation

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-  term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth company, and
  • 2: the average yield on high-grade corporate bonds.

BRK IV

Intrinsic value, it factors earning per share and the growth of the company. The result shows that the earnings per share were averaging $4.85 and the annual growth rate was averaging 23.54 percent, the formula we used is:

EPS

Explanation

The sustainable growth rate (SGR) shows how fast a company can grow by using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know how profitable the company is by its return on equity (ROE). Moreover, you also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. And from there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

The formula is Sustainable growth rate = ROE x (1 – dividend-payout ratio).

BRK SGR

Explanation

The table shows that the return on equity was averaging 7.27 percent, while the payout ratio was zero percent. Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. It is also known as Return on net worth. Below is the formula for the return on equity.

Return on Equity = Net Income / Shareholders’ Equity

Return on equity shows how many dollars of earnings result from each dollar of equity. The average approach was used in the above calculations for the sustainable growth rate. Moreover, there is another approach in calculating and that is the average ratio approach.

BRK Relative

Explanation

To sum up the result of these two approaches, it shows that the margin of safety and the intrinsic value are higher in the relative approach. Walking further, I have prepared a graph for the intrinsic value to illustrate to you how the market and the true value is related to the margin of safety.

Intrinsic Value Graph

BRK Graph

Further, as we can see the intrinsic value line was much higher than the enterprise value line, this means there was a margin of safety because the space in between represents the margin of safety.  It is the difference between the true value and the price.

Price to Earnings/Earning Per Share (P/E*EPS)              BBRY PE EPS

Facts

The result of the P/E*EPS valuation shows that the stock price of BRK.B was undervalued from the period 2008 up to the trailing twelve months.  The market price was averaging 97 percent of the P/E*EPS ratio, meaning the stock price was cheap. The price to earnings ratio was averaging $18.15.

Explanation

This valuation shows the relationship between the stock price and the company’s earnings. The price to earnings is the price that the market is willing to pay for the company’s earnings. The price to earnings of the company can change daily as the market price changes. Analysts use the price to earnings ratio more often because it shows if the company is in the growth phase or if the company is mature and how the market is willing to pay. Price to earnings varies as economic changes, different industries and other factors that affect the market price.

The Enterprise Value (EV) /Earning Per Share (EPS) or (EV/EPS)              

BRK EV EPS

The result of the EV/EPS valuation tells us that the price (P/E) was averaging 22 percent and the earnings (EPS) was averaging 78 percent. This valuation is either over or undervalued because the result depends upon the analyst’s own discretion.

Enterprise Value (EV) / Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).                 

This metric is used in estimating business valuation. EV/EBITDA compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. It is useful for analyzing and comparing profitability between companies and industries. This measure gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

BRK EV EBITDA

Facts

The EV/EBITDA valuation is one measure of the company’s profitability if you want to see the cash-generating power of the entire firm. And you don’t care whether it’s equity or debt financing this cash-generating operation. The reason why EV/EBITDA is used for pure valuation and it is used to find attractive takeover candidates.  The table above indicates that the EV/EBITDA multiple is averaging 8 times.  It means that in buying the entire business of BRK.B it will take 8 times  the cash earnings of the company to recover the costs of purchasing.  In other words, it will take 8 years to recover the costs of buying the entire firm.

Summary

The market capitalization of Berkshire Hathaway Inc (BRK>B) rises 84 percent from 2008. Also, the total debt was averaging 31 percent and the cash and cash equivalent was averaging 22 percent.  Buying the entire business of BRK.B, an investor would be paying 90 percent of equity and a 10 percent total debt because cash was less than the debt. Further, the takeover price of the entire business of BRK.B to date, July 6, 2013, was $288 billion at $112.63 per share. The market price to date was $114.96 per share.

Net Current Asset Value

The net current asset value approach tells us that the stock price was traded at an overvalued price because the market price was greater than the 66 percent ratio. The 66 percent ratio was only 14 percent of the market price. The MC/NCAV valuation indicates that the stock was overvalued because the ratio exceeded the 1.2 ratios.

Margin of Safety

The margin of safety was averaging 36 percent, thus, it indicates that the margin of safety was insufficient because it did not pass the requirement of at least 40 percent.  In addition, the earnings per share were averaging $4.85 and the annual growth rate was averaging 23.54 percent. Moreover, the return on equity was averaging 7.27 percent, while the payout ratio was zero percent.

PE/EPS

Moreover, the result of the P/E*EPS valuation shows that the stock price of BRK.B was undervalued. The market price was averaging 97 percent of the P/E*EPS ratio. Meaning the stock price was cheap. The price to earnings ratio was averaging $18.15.

EV/EPS

The EV/EPS valuation tells us that the price (P/E) was averaging 22 percent. Moreover, the earnings (EPS) was averaging 78 percent.

Further, the EV/EBITDA multiple is averaging 8 times. Meaning, it will take 8 years to recover the costs of buying the entire firm.

Overall

The stock price was undervalued moreover, its margin of safety was not sufficient for a good Buy. Therefore, I recommend a HOLD in the stock of Berkshire Hathaway Inc (BRK.B).

Research and Written by Criselda

Interested in learning more about the company? Here’s company research to know more about its background and history; and value investing guide for the financial status.

Ebix Inc

EBIX Inc (EBIX) Investment Valuation

July 9th, 2013 Posted by Investment Valuation No Comment yet

EBIX Inc (EBIX) is an international supplier of software and e-commerce solutions to the insurance industry have been on and off; accusing of dishonest practices in accounting which have caused the stock to drop by 57 percent from 2011. 

I think you have the idea that this investment valuation report will iterate the know-how of the company when it comes to the market side and how the news mentioned above will greatly affect Ebix Inc. Let’s dig down into the details.

Value Investing Approach on EBIX

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

The Investment in Enterprise Value on EBIX

  EBIX EV

Explanation

The market capitalization of Ebix Inc was trending at a rate of 36 percent average. During 2012, the market cap drops by 25 percent from 2011 but managed to rise by 23 percent in the trailing twelve months. The total debt was averaging 7 percent and the cash and cash equivalent was averaging 4 percent. If buying the entire business of EBIX, the investor would be paying 97 percent of equity and a 3 percent total debt because cash was less than debt. The market price had decreased by 42 percent from that of last year 2012.n:

The takeover price of the EBIX’s entire business to date, June 29, 2013, was $349 million at $8.95 per share. The market price to date was $9.26 per share. 

Net Current Asset Value (NCAV) Approach            

Graham developed and tested the net current asset value (NCAV) approach between 1930 and 1932. Graham reported that the average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20 percent. And not only that, an outside study showed that from 1970 to 1983, an investor could have earned an average return of 29.4 percent by purchasing stocks that fulfilled Graham’s requirement and holding them for one year.

Net Current Asset Value (NCAV) Method    

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

EBIX NCAVPS

The stock price of EBIX was trading at an overvalued price in 2008 up to the trailing twelve months because the market price was greater than the 66 percent ratio. It indicates that the stock was above the liquidation value of the company.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation    

If the result does not exceed the ratio of 1.2, then the stock passes the test for buying.

  Ebix Inc

The MC/NCAV valuation shows that stock price was overvalued in the last five years because the ratio exceeded the 1.2 ratios. The price is considered expensive.

 The margin of Safety (MOS)          

The margin of Safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole. This formula is used to identify the difference between company value and price.

EBIX MOS

Explanation

The above table shows that the margin of safety was averaging 85 percent. The enterprise value was averaging $15, while the intrinsic value was averaging $97.  This means that if you are buying the stocks of EBIX you have the security of 98 percent, further it means that the stock was trading below the real value of the stock. And intrinsic value is the real value of the stock. The formula to be used is:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)

For instance,

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth company  and
  • 2: the average yield on high-grade corporate bonds.

   EBIX IV

Explanation

In the calculation of the intrinsic value, we factor earning per share and the growth of the company. The result of the calculation shows that the earning per share was averaging $1.60 and the annual growth rate was averaging 64.15 percent. The term earnings per share (EPS) represents the portion of a company’s earnings, net of taxes and preferred stock dividends, that is allocated to each share of common stock. The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. Because the number of shares outstanding can fluctuate, a weighted average is typically used.

Sustainable growth

Sustainable growth rate (SGR), on the other hand, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. To cut this short, we have the formula: Sustainable growth rate = ROE x (1 – dividend-payout ratio)

     EBIX SGR

The table shows that the return on equity was averaging 28.45 percent, while the payout ratio was averaging 4.17 percent.

  ROE

Return on Equity shows how many dollars of earnings result from each dollar of equity.  Now, there are two approaches to calculating the sustainable growth rate, these are the relative ratio approach and the average ratio approach. Since sustainable growth rate is the factor of intrinsic value, whatever approach you will use might affect the result of the margin of safety and the intrinsic value depending on the result of the average return on equity. To better understand.

Summary represented in the table below

EBIX Relative

To sum up the result of these two approaches, it shows that the margin of safety has both of the same percentages which are 83 percent. However, the growth produces a higher ratio.

Intrinsic Value

EBIX Graph

Explanation

As we can see, the intrinsic value line was much higher than the enterprise value line. And the margin of safety was averaging 98 percent. To explain further, the space in between these two lines is the margin of safety which is the difference between the intrinsic value and the enterprise value. Remember, the intrinsic value is the true value of the stock of the company. The graph means the market price was lower than the true value of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)  

EBIX PE EPS

The P/E*EPS valuation shows that the stock price was undervalued in the last five years. On average, the market price was 83 percent of the P/E*EPS ratio, meaning the stock price was cheap.

This valuation shows the relationship between the stock price and the company’s earnings. The price to earnings is the price that the market is willing to pay for the company’s earnings. The price to earnings of the company can change daily as the market price changes. Analysts use the price to earnings ratio more often because it shows if the company is in the growth phase or if the company is mature and how the market is willing to pay. Price to earnings varies as to economic changes, different industries and other factors that affect the market price.

The Enterprise value (EV) /Earning Per Share (EPS) or (EV/EPS)   

EBIX EV EPS

The result of the EV/EPS valuation tells us that the price (P/E) that was separated from the enterprise value was averaging 64 percent and the earnings (EPS) was averaging 36 percent. The result depends upon the analyst’s own discretion.  It is either over or undervalued.

Enterprise Value (EV) / Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)  

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

EBIX EV EBITDA

Explanation

The EV/EBITDA valuation is one measure of the company’s profitability because EBITDA represents the cash earnings of the company exclusive of expenses that has no cash outlays. It will take 10 years to recover the cost of buying.  In other words, to recover the cost of buying the entire business it will take 10 times of the cash earnings to cover the costs.

It will take a long period of waiting because the company was not generating sufficient cash revenues from its operation.

The Summary 

The market capitalization was moving at a rate of 36 percent average. On the other hand, the total debt was averaging 7 percent. And the cash and cash equivalent were averaging  4 percent. Buying the entire business of EBIX, the investor would be paying 97 percent of equity and 3 percent total debt. Because cash was less than debt. The takeover price of the entire business to date, June 29, 2013, was $349 million at $8.95 per share. The market price to date was $9.26 per share.

Net Current Asset Value

The net current asset value approach tells us that the stock price was trading at an overvalued price. Because the market price was greater than the 66 percent ratio. On the other hand, the MC/NCAV indicate an overvalued price because the ratios exceeded the 1.2 ratios.

Margin of Safety

Further, the margin of safety was averaging 85 percent and also, the enterprise value was averaging $15. Intrinsic value, on the other hand, was averaging $97. In addition, the earning per share was averaging $1.60 and the annual growth rate was averaging 64.15 percent. Furthermore, the return on equity was averaging 28.45 percent, and the payout ratio was averaging 4.17 percent.

P/E*EPS

The P/E*EPS valuation shows that the stock price was undervalued in the last five years.  On average, the market price was 83 percent of the P/E*EPS ratio.  In other words, the stock price was cheap. The price (P/E) that was separated from the enterprise value was 64 percent and the earnings (EPS) was 36 percent.

EV/EBITDA

The EV/EBITDA valuation indicates that it will take 10 years to recover the cost of buying the entire business.  In other words, to recover the cost of buying it will take 10 times of the cash earnings of EBIX.

Overall

The stock of EBIX has dropped 57 percent from 2011 due to allegations of inaccuracies in its financial statements.  Goldman Sachs Group Inc plans to buy Ebix at $743 million at $20 per share. Ebix might have difficulty in winning back the trust of its shareholders and the public. Therefore, I recommend a SELL in the stock of EBIX Inc.

Research and Written by Criselda

Bridgepoint Education Inc

Bridgepoint Education Inc (BPI) A Best Buy?

July 7th, 2013 Posted by Investment Valuation No Comment yet

Bridgepoint Education Inc (BPI). When we talk about community colleges, there are so many colleges that pop up in my mind and one of this is the Bridgepoint Education Inc. The question is, “Are community colleges a better bet than any other exclusive schools like Harvard? Is it wise to consider Education Services in our portfolio?”

BPI Value Investing Approach 

This Pricing Model was prepared in a very simple and easy way to value a company for business valuation.  We adopt the investment style which we think applicable to the company, we looked for companies with a strong balance sheet or those with little debt, above average profit margin and ample cash flow. This valuation style is to seek out undervalued companies whose stock price is temporarily down, but fundamentals are sound in the long run. The philosophy was to buy wisely when prices fall and to sell wisely when the prices rise a great deal. My basis of valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. In this model, we calculated first the enterprise value as our initial step in this valuation.

BPI Investment in Enterprise Value    

The concept of enterprise value is to calculate what it would cost to purchase an entire business.

BPI EV

The market capitalization of Bridgepoint Education Inc was erratic in movement. During 2012, it experienced a 53 percent drop from 2011. Total debt was zero percent while its cash and cash equivalent were 54 percent of the enterprise value, thus making the enterprise value lesser than the market value.  The equation in buying the entire business of BPI was 100 percent equity and zero percent total debt.

The takeover price of the entire business of BPI to date, May 19, 2013, was $260 million at $282 million at $5.04 per share. The market price to date was $12.49 per share.

Net Current Asset Value (NCAV) Method   

Studies have all shown that Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly.

 The reason for this is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

BPI NCAV

The net current asset value approach of Benjamin Graham tells us that the stock price was overvalued from 2010 up to the trailing twelve months. The net current asset value was $206 average while the average net current asset value per share was $3.63 and the 66 percent ratio was $2.40 average. In addition, the market price was $15.78 average.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation

Market Capitalization / NCAV = Result (must be lesser than 1.2)
Bridgepoint Education Inc

The MC/NCAV method tells us that the BPI’s stocks are trading overvalued because the ratio exceeded the 1.2 ratios from 2008 to the trailing twelve months.

The margin of Safety (MOS)           

The Margin of Safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole.

EV takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization. The margin of safety was calculated at Margin of Safety = Enterprise Value – Intrinsic Value. The table shows the historical calculation for the margin of safety.

 Bridgepoint Education Inc

Explanation

The average margin of safety was 97 percent. The intrinsic value was $274 average while the enterprise value was $9 average.

Formula: Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)     

The explanation in the calculation of intrinsic value was as follows:

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-  term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth  as proposed and
  • 2: the average yield on high-grade corporate bonds.
 Bridgepoint Education Inc

Explanation

The result of the calculation shows that the average earning per share $2.27 and the sustainable growth rate were $50.62 average.  Annual growth rate, on the other hand, was $110 average.

The term earnings per share (EPS) represents the portion of the company’s earnings, net of taxes and preferred stock dividends, that are allocated to each share of common stock. The figure can be calculated by simply dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. Because the number of shares outstanding can fluctuate, a weighted average is typically used. The formula for earnings per share was:

     EPS

Sustainable Growth Rate

She sustainable growth rate (SGR), on the other hand, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. Sustainable growth rate = ROE x (1 – dividend-payout ratio)

Below is the table for a sustainable growth rate.

BPI SGR

Explanation

The table shows that the return on equity was 50.62 percent, average while the payout ratio was zero percent. This means that  BPI is not giving cash dividends to its shareholders. In addition, the sustainable growth rate was 50.62 as well because there was a zero payout ratio.

To be able to calculate for the SGR, we need to know first the ROE. It shows how many dollars of earnings result from each dollar of equity.

ROE

Intrinsic Value

Let us walk step by step. 

BPI Graph

As we can see, the intrinsic value line was erratic in movement. In 2009 to 2010, the increased was 188 percent, and from 2010 to 2011, there was another increase of 20 percent. Further, it suddenly dropped to 20 percent in 2012 then remained stable for the trailing twelve months.

Explanation

Let us dig a little on the net earnings of the company and find out if the trend is the same as the intrinsic value. The net earnings from 2009 to 2010 had increased by 188 percent, then it increased by 3 percent in 2011 and then dropped to 3 percent in 2012 and 1 percent in the trailing twelve months. You see, whatever trend it has in the intrinsic value, the same trend it has in the net earnings of the company. So, by just looking at the line of the true value of the stock you will know what had happened to the operation of the company, as intrinsic value factors the growth of the company.

Further, the enterprise value remained stable at an average of $9. The margin of safety is the space between these two lines. In other words, it is the difference between enterprise value and the intrinsic value. If you will notice, the intrinsic value line is high above the EV line, meaning, the MOS was high also during these periods.

Price to Earnings/Earning Per Share (P/E*EPS) 

This valuation will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

BPI PE EPS

The stock of BPI was undervalued in 2010 because the enterprise value was lesser than the P/E*EPS ratio. The enterprise value was average $9, while the P/E*EPS ratio was average $17, thus the price was cheap.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)     

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E) and the difference represents the earnings (EPS).

BPI EV EPS

The EV/EPS valuation tells us that the price (P/E) was 37 percent while the earnings (EPS) was 63 percent. It indicates that the price was undervalued because the price was lesser than earnings.

Enterprise Value (EV) / Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)     

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses.

BPI EV EBITDA

EV/EBITDA tells us that it will take 2 years to recover the costs of buying the entire business of BPI. In other words, it will take 2 times the cash earnings of BPI to recover the cost of buying the entire business. The EBITDA was 59 percent of the enterprise value.

Overview

The market capitalization of Bridgepoint Education Inc was erratic in movement. In 2012 it experienced a 53 percent drop from 2011. Total debt was zero percent while its cash and cash equivalent were 54 percent of the enterprise value. Thus making the enterprise value lesser than the market value.  The equation in buying the entire business of BPI was 100 percent equity and zero percent total debt.    

The takeover price of the entire business of BPI to date, May 19, 2013, was $260 million at $282 million at $5.04 per share. The market price to date was $12.49 per share.

Net Current Asset Value

The net current asset value approach tells us that the stock price was overvalued. Further, it tells us that the stock of BPI did not pass the stock test. Because the stock was trading above the liquidation value of the company.

On the other hand, the MC/NCAV method tells us that the stocks are trading overvalued. Because the ratio exceeded the 1.2 ratios from 2008 to the trailing twelve months.

Margin of Safety

In addition, the average margin of safety was 97 percent while the intrinsic value was $274 average. The average earning per share was $2.27 and the sustainable growth rate was $50.62 average.  While the annual growth rate was $110 average. And the return on equity was 50.62 percent average so as the sustainable growth rate of 50.62. And the payout ratio was zero percent.

P/E*EPS

The relative valuation in the P/E*EPS valuation indicates that the stock of BPI was undervalued in 2010. For the reason that the enterprise value was lesser than the P/E*EPS ratio. On the other hand, the EV/EPS valuation tells us that the price (P/E) was 37 percent while the earnings (EPS) was 63 percent.

EV/EBITDA

The EV/EBITDA tells us that it will take 2 years to recover the costs of buying the entire business. It will take 2 times the cash earnings to recover the cost of buying the entire business. The EBITDA was 59 percent of the enterprise value.

Overall, the stock price of BPI was undervalued, further, its margin of safety was impressive. Further, the EV/EBITDA was satisfactory, therefore, I recommend a BUY on the stock of Bridgepoint Education Inc.

Research and Written by Criselda

Interested to learn more about the company? Here’s an investment guide for a quick view, company research to know more about its background and history; and value investing guide for the financial status.

Apollo Group Inc

Apollo Group Inc (APOL) Investment Valuation

June 26th, 2013 Posted by Investment Valuation No Comment yet
Apollo Group Inc (APOL). The increasing competition in the Educational Industry, would it be wise to consider education services in our portfolio?  Among these, we are aware that ESI was abused in 2012 in which the stock went down 67 percent.

About APOL

Today, we will touch on the valuation of Apollo Group Inc (APOL), another Educational Services in the USA.  APOL, however, reported an 11.5 percent decrease in its net earnings, principally due to lower enrollment which was down 5.7 percent; as most educational companies experienced the same scenario like DeVry and other known institutions of the same industry peers. One reason for this is the rising competition in online education startups such as Coursera and Udacity.  These programs are giving the students the opportunity to take different courses without having to pay for them.

How long will this industry able to sustain their operations? If you are considering investing in this kind of industry, is it the right time?

APOL Value Investing Approach    

Totem’s Pricing Model was prepared in a very simple and easy way to value a company. We adopted an investment style which we think applicable to the company, we looked for companies with a good balance sheet and undervalued stock price. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. This is considered important because this is a great measure of the total value of a firm and is often good starting points for negotiation of a business.

APOL Investment in Enterprise Value    

The concept of enterprise value is to arrive at a cost to purchase the entire business. In other words, the Enterprise Value (EV) is the present value of the entire company. Market capitalization, on the other hand, is the total value of the company’s equity shares. In essence, EV is the company’s theoretical takeover price, since the buyer would have to buy all of the stock and pay off existing debt and take all any remaining cash. The table below would give us relevant data about APOL.

APOL EV

Explanation

The market capitalization of APOL was decreasing from 2008 at a rate of -80 percent. The total debt represents 7 percent while the cash and cash equivalent were 17 percent greater than the debt. Thus, this makes the enterprise value lesser than the market value because the remaining cash was deducted to the enterprise value. Buying the entire business of APOL is paying 100 percent of its equity, no debt.

The takeover price of the entire business to date, May 27, 2013, is $1.3 billion at $11.48 per share.  Moreover, the market price to date was $20.99 per share.

The Net Current Asset Value Per Share (NCAVPS)

APOL NCAVPS

Explanation

The net current asset value approach indicates that the stock price of APOL was overvalued in five years. The average 66 percent ratio represents $1.87 against the market price of $45.40, average.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation    

Market Capitalization / NCAV = Result (must be lesser than 1.2)    

APOL MC NCAV

The stock price of APOL was overvalued in the last five years because the ratio was more than 1.2 ratio.

 The margin of Safety (MOS)    

The basic meaning of “Margin of Safety” is that investors should only purchase security when the market price is trading at a discount to its intrinsic value, in other words, the market price should be lower than the intrinsic value or true price.

The margin of Safety is the difference between the market price and the intrinsic value, in other words, buying stocks when the market price is lower than its true value.

Formula:

          Margin of Safety = Enterprise Value – Intrinsic Value.

Summary:

The table below shows the historical calculation for the margin of safety.

APOL MOS

The table shows that the average margin of safety on the stock of APOL was 90 percent. This means there is safety in buying the stock of APOL and can be a good candidate for a Buy.

Intrinsic Value formula

          Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate) 

The explanation in the calculation of intrinsic value was as follows:

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth company and
  • 2: the average yield on high-grade corporate bonds.

APOL IV

Explanation

The average earning per share were $3.50 and the annual growth rate was 104 percent. What is earning per share (EPS)?  EPS represents the portion of a company’s earnings, net of taxes and preferred stock dividends that are allocated to each share of common stock. The figure can be calculated by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. Because the number of shares outstanding can fluctuate, a weighted average is typically used.

Retained Earnings

The formula for earning per share was:

EPS
The sustainable growth rate of a company, tells us how profitable the company is, as measured by its return on equity (ROE). You also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. From there, multiply the company’s ROE by its low back ratio, which is equal to 1 minus the dividend payout ratio. In other words, Sustainable growth rate = ROE x (1 – dividend-payout ratio)

Sustainable Growth Rate

APOL SGR

The table above shows that the average return on equity was 47.49 percent, the same as the sustainable growth rate because there was a zero payout ratio. APOL is not paying cash dividends to its shareholders’ since 2008.

Return on Equity

Return on Equity shows how many dollars of earnings result from each dollar of equity.

    ROE

Moreover, the computations that were used in the sustainable growth rate was the relative approach. This will also affect the results of the intrinsic value and the margin of safety.  There is another way of calculating, and that is by using the average approach.

Relative and Average Approach

The table below is the summary of the results of using the relative and average approach.
APOL Relative

The table above shows the relative approach produced higher results; the average approach takes into consideration the past period’s performance of the company. If the past period is lower, the current result will be lower as well, and vice versa.

         APOL Graph

Explanation

The above graph above, the intrinsic value line was erratic in movement, uptrend, and downtrend, however, the overall view, it deteriorates from 2008, ranging 403 down to 234 a 42 percent drop. The graph indicates a 90 percent average margin of safety, calculating the difference between enterprise value and the intrinsic value.  Whether the company is in good or bad financial condition it will show in the intrinsic value line. If the earnings of the company are stable, the IV will also show a stable line. This is because the intrinsic value factors the growth of the company.

APOL Relative Valuation Methods 

The concept of relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)  

Multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.

APOL PE EPS

Explanation

The P/E*EPS indicates that the overall stock price was undervalued. Because the price was lower by a 17 percent average than the P/E*EPS ratio. Thus, the stock price was cheap.

Another way of calculating this valuation is by using the Average approach. The table will show us the difference of using these two approaches. 

APOL Relative PE

It shows that the relative approach has a higher price to earnings than by the results of the average approach. Because the average approach takes into consideration the past period performance.

The Enterprise value (EV) /Earning per Share (EPS) or (EV/EPS)

The use of this ratio is, to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E) and the difference represents the earnings (EPS).

Explanation

This valuation is the separation of price and earnings in the enterprise value. The price (P/E) that was separated from the enterprise value was 29 percent. And the remaining 79 percent representing the earnings (EPS). This valuation is either over or undervalued.

Enterprise Value (EV) / Earnings before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)

It is used to compare the value of the company inclusive of debt to the actual cash earnings. This measure is useful for analyzing and comparing profitability between companies and industries. It tells us how long it would take for the earnings of the company to pay off the price of buying the entire business, including debt.

APOL EV EBITDA

Explanation

The EV/EBITDA tells us that it will take 6 years to recover the cost of purchasing the entire business of APOL.  In other words, it will take 6 times of the cash earnings of the company to recover the buying cost.

EBITDA/EV was 17 percent, meaning the earnings before tax plus depreciation and interest expense represent 17 percent of the enterprise value.
In conclusion,
  • The market capitalization of APOL, in general, was decreasing from 2008 at a rate of -80 percent. The total debt represents 7 percent while the cash and cash equivalent were 17 percent greater than the debt. Buying the entire business of APOL is paying 100 percent of its equity, no debt.
  • The takeover price of the entire business to date, May 27, 2013, is $1.3 billion at $11.48 per share.  Moreover, the market price to date was $20.99 per share.
  •  The price was expensive using Graham’s MC/NCAV method.

Margin of Safety

  • Furthermore, the average margin of safety on the stock of APOL was 90 percent. Further, the average earning per share was $3.50 and the annual growth rate was 104 percent. In addition, the average return on equity was 47.49 percent. The same result for the sustainable growth rate because there was a zero payout ratio.

P/E*EPS

  • The price was lower by a 17 percent average than the P/E*EPS ratio. The price (P/E) that was separated was 29 percent and the remaining 79 percent is the earnings (EPS). This valuation is either over or undervalued depending on the analyst’s own discretion.

EV/EBITDA

  • The EV/EBITDA tells us that it will take 6 years to recover the cost of purchasing the entire business. In other words, it will take 6 times of the cash earnings of the company to recover the buying costs.

EBITDA/EV

  • On the other hand, the EBITDA/EV was 17 percent. It means the earnings before tax plus depreciation and interest expense represent 17 percent of the enterprise value.

The margin of safety was high at 90 percent average.  In addition, the growth of the company was satisfactory including its return on equity. Its price to earnings ratio and the earnings per share was acceptable.  Apollo Group Inc (APOL) was undervalued and a good candidate for a BUY.

Research and written by Criselda

Twitter: criseldarome

Telecom Argentina S.A. (ADR) teo

Telecom Argentina S.A. (ADR) A Best BUY?

June 24th, 2013 Posted by Investment Valuation No Comment yet

Telecom Argentina S.A. (ADR) or TEO as their symbol, is one of Argentina’s leading telecommunication companies. As we are aware, wireless data consumption has increased due to the rapid adoption of Smartphones and tablets.  With its increasing revenues year over year for the past five years and with its ample cash, the future seems bright with Telecom Argentina. The company has initiated a long position with its solid cash flows. Telecom Argentina is the principal subsidiary of Nortel Inversora S.A., a holding company that operates out of Buenos Aires, Argentina.

Telecom Argentina Value Investing Approach

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

Telecom Argentina Investment in Enterprise Value                   

TEO EV

Explanation

The market capitalization of Telecom Argentina was trending at a rate of 28 percent average. The enterprise value was negative during 2012 and the trailing twelve months because its cash and cash equivalent were greater than the total debt at 2640 and 3052 percent, respectively. Its total debt was 46 percent average and its cash and cash equivalent was 187 percent of the enterprise value thus, enterprise value represents only 42 percent of the market value. Buying the entire business of Telecom Argentina is purchasing 100 percent of its equity.

Takeover Price

The takeover price of the entire business of Telecom Argentina to date, June 9, 2013, would be -$738 at -$3.75 per share, meaning zero dollars because the cash and cash equivalent are greater than the total debt. TEO had solid cash and cash equivalent in which the company had initiated its position and strength. The market price to date was $15.89 per share.

Net Current Asset Value (NCAV) Approach    

Benjamin Graham developed and tested the net current asset value (NCAV) approach between 1930 and 1932. Reported that the average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20 percent. To justify this, an outside study also showed that from 1970 to 1983, an investor could have earned an average return of 29.4 percent by purchasing stocks and holding them for one year.

TEO NCAVPS

Explanation

The table above tells us that the stock price of Telecom Argentina was overvalued because the 66 percent ratio was greater than the market price from 2008 up to the trailing twelve months. The ratio represents only 1 percent of the market price. The results further indicate that the stock price was expensive because the stock was trading above the liquidation value of Telecom Argentina.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation   

By calculating market capitalization over the net current asset value of the company, we can determine if the stocks are trading over or undervalued. The result should be less than 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)

TEO MC NCAV

Explanation

The stock price of Telecom Argentina was overvalued because the ratios exceeded the 1.2 ratios for the period 2008 up to the trailing twelve months.

A formula to be used is the Margin of Safety = Enterprise Value – Intrinsic Value. The table below shows the TEO’s historical calculation for the margin of safety.

TEO MOS

The result of the above calculations indicates that the average margin of safety was 98 percent average.  The margin of safety was high during 2012 and the trailing twelve months due to the enterprise which is negative. The average enterprise value was $6.46 while the intrinsic value was $550 average.  The formula for intrinsic value was as follows:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)  

TEO IV

Explanation

As seen in the table above, the intrinsic value factors the earnings per share and the growth of the company. The average earning per share as per the calculations above was $10.41 and the sustainable growth rate was 22.80 percent average while the average annual growth rate was 55 percent.

The term earnings per share (EPS) represent the portion of a company’s earnings, net of taxes and preferred stock dividends, that is allocated to each share of common stock. The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. The formula is:

EPS

Sustainable Growth Rate

While the sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. In getting the sustainable growth rate for a company, you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. For the shorter version of the process above, here’s the formula:

Sustainable growth rate = ROE x (1 – dividend-payout ratio).

TEO SGR

Explanation

The return on equity was a 30.49 percent average, while the payout ratio was 24 percent average. TEO has zero payout ratios during 2008 and 2009 because the company did not pay cash dividends during those periods to its shareholders.

ROE

There are two ways of calculating the sustainable growth rate and that is by using the relative and the average approach.  The calculations above were the results of the relative approach. But to see how the two approaches differ.

TEO Relative

As shown above, the margin of safety using the average approach has the same results as by using the relative approach. For the growth, they have only a little difference.

I have prepared a graph for us to fully understand the relationship between a price and the true value of the stock.

TEO Graph

Explanation

As we can see in the graph, the intrinsic value line or the true value line drops at a rate of 20 percent, then up by 75 percent in 2011 and remain stable during 2012 and the trailing twelve months. Comparing the trend to the revenue of TEO, its revenue reached 92 percent during 2012 and the trailing twelve months.  If we will get the average of MOS from 2008 to the trailing twelve months we will get 98 percent, this represents the space in between the two lines.

Telecom Argentina Relative Valuation Methods  

The relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)    

This valuation will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

TEO PE EPS

Explanation

The stock was trading at an undervalued price because the P/E*EPS ratio was higher than the enterprise value. The P/E*EPS was 1442 percent of the enterprise value.

The other method of calculating the P/E*EPS valuation is by using the average approach. The table below will show us the difference.  

TEO Relative PE

The calculation above shows that the price to earnings was higher in relative approach than by using the average approach. The average price to earnings was $8.53.

The Enterprise value (EV) /Earning per Share (EPS) or (EV/EPS)      

The use of this ratio is, to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E) and the difference represents the earnings (EPS).

TEO EV EPS

Explanation

The EV/EPS valuation indicates that the price (P/E) that was separated from the enterprise value was 15 percent average. And the remaining 85 percent represents the earnings (EPS).  This might indicate that the stock was trading at an undervalued price.

Enterprise Value (EV) / Earnings before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)     

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It tells us how long it would take for the earnings pay off the price of buying.

TEO EV EBITDA

The EV/EBITDA tells us that it will take 3 years to cover the cost of buying the entire business. In other words, it will take 3 times of the cash earnings of the company to recover the purchase price.

The Summary

The enterprise value was negative during 2012 and the trailing twelve months. Due to its cash and cash equivalent were greater than the total debt. Its total debt was 46 percent average and its cash and cash equivalent was 187 percent of the enterprise value. Buying the entire business of Telecom Argentina is purchasing 100 percent of its equity.

The takeover price of the entire business to date, June 9, 2013, was -$738 at -$3.75 per share. Meaning zero dollars because the cash and cash equivalent are greater than the total debt. Telecom Argentina had solid cash and cash equivalent in which the company had initiated its position and strength.  The market price to date was $15.89 per share.

Takeover Price

MC/NCAV valuation shows that the stock was overvalued. For the reason the ratio exceeded the 1.2 ratios, the average margin of safety was 98 percent average. The average earning per share was $10.41. The SGR was 22.80 percent average. The average annual growth rate was 55 percent. In addition, the return on equity was 30.49 percent average. On the other hand, the payout ratio was 24 percent average.

P/E*EPS

Furthermore, the P/E*EPS valuation indicates that the stock price was undervalued. For the reason, the enterprise value was lesser than the P/E*EPS ratio. On the other hand, the EV/EPS valuation indicates that the stock is undervalued. Because the price represents 15 percent and the earnings were 85 percent.

EV/EBITDA

The EV/EBITDA tells us that it will take 3 years to recover the cost of buying the entire business.  In other words, it will take 3 times of the cash earnings of the company to recover the purchase price.

Conclusion

Overall, it indicates that the stock price of Telecom Argentina was undervalued. The return on equity was 30 percent and the payout ratio was 24 percent. In addition, the earning per share was $10.41 average. Moreover, the company has solid cash which initiated its position and strength. Therefore, I recommend a BUY on the stock of Telecom Argentina S.A. (ADR).

Research and Written by Criselda

BYD Company Ltd ADR

BYD Company Ltd ADR (BYDDY) On Hold

May 21st, 2013 Posted by Investment Valuation No Comment yet

 BYD Value Investing Approach   

This Pricing Model was prepared for BYD in a very simple and easy way to value a company for business valuation. The essence of value investing according to Benjamin Graham is that investments should be worth less than its real value. This valuation style is to find out undervalued companies with a sound balance sheet.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation      

By calculating market capitalization over the net current asset value of the company, we will know if the stocks are trading over or undervalued. The result should be less than 1.2 ratios.

The formula was: Market Capitalization / NCAV = Result (must be lesser than 1.2)

BYD COMPANY LTD ADR

Explanation

The MC/NCAV valuation tells us that the stock was overvalued from 2008 up to the trailing twelve months because the ratio was greater than the 1.2 ratios. The net current asset value of BYD was negative because current liabilities were greater than its current assets. The ratio shows a -0. 16 against the 1.2 ratios. From there, we can say that the stock price was expensive.

BYD Margin of Safety (MOS)  

The Margin of Safety is the difference between the market value and the real value. In other words, it is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies — the market price and the company’s business value or true value.

Formula:  Margin of Safety =  Enterprise Value – Intrinsic Value.

The table shows the historical calculation for the margin of safety.

 BYD COMPANY LTD ADR

Explanation

The average margin of safety was 49 percent, more than the requirement of Benjamin Graham. The average enterprise value per share was $6.8 while the margin of safety was $10.33 per share.

In addition, the formula for the intrinsic value is: 

Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable  Growth Rate)  

The table below will show us the historical results of the calculations for the intrinsic value.

BYDDY IV

Explanation

The average intrinsic value was $14.41 per share while the earnings per share were averaging $0.74 and the annual growth rate was 16.39 percent average.

The term earnings per share (EPS) represent the portion of a company’s earnings, net of taxes and preferred stock dividends, that is allocated to each share of common stock. The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term.

The formula for earning per share is:

EPS

 To calculate the sustainable -growth rate you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable Growth Rate

Sustainable growth rate = ROE x (1 – dividend-payout ratio)

BYDDY SGR

The results of the calculation show that the BYD average sustainable growth rate was 3.7 percent and the return on equity was 3.7 as well because there was a zero payout ratio. 

Return on Equity

Return on Equity (ROE), is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. It shows how many dollars of earnings result from each dollar of equity. For the formula, please refer below:

ROE

The other way of calculating the sustainable growth rate was by using the average approach.

BYDDY Relative

As a result, the average approach produced a higher margin of safety because it takes into consideration the past performance.

Intrinsic Value Graph

Moving forward, I will show you the relationship of a price and value.

BYDDY Graph

Explanation

The intrinsic value is the true value of the stock while the enterprise value represents the market price. The intrinsic value soared up very high from 2008 to 2010 at a rate of 1224 percent. This means that there was a margin of safety from 2008 to 2011 because the intrinsic value line was higher than the EV line. The point of intersection at the year 2012 indicated a zero margin of safety until the trailing twelve months because the IV line is lower than the EV line. In other words, the price was higher than the true value of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)

This valuation will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

BYDDY PE EPS

Explanation

The table above indicates that in the P/E*EPS valuation the stock price was undervalued because the enterprise value was lesser than the P/E*EPS ratio. The enterprise value represents 20 percent of the ratio, thus, the stock price was cheap.

As shown in the table, the price to earnings ratio was so high during 2012 and the trailing twelve months, this is due to being net earnings of only 0.18 percent. Thus, the average P/E was so high.

The average approach takes into consideration the past period’s performance. The summary of the results of the calculations is in the table below:

BYDDY Relative

The relative approach produced a higher result than by using the average approach. The average approach takes into consideration the company’s past performance.

The Enterprise Value (EV)/Earning Per Share (EPS) or (EV/EPS)

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result would then represents the price (P/E) and the difference represents the earnings (EPS).

BYDDY EV EPS

Explanation

This valuation is the separation of price and earnings from the enterprise value.  The price represents 764 percent and the earnings were -664 percent. The earnings were negative because the EPS was very low during 2008, 2009, 2012 and the trailing twelve months.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

BYDDY EV EBITDA

The EV/EBITDA tells us that it will take 4 years to recover the cost of buying the entire business of BYD, in other words, it will take 4 times of the cash earnings of the company to recover the cost of buying the entire business. The EBITDA represents 25 percent of the enterprise value, it is the cash of the company against the enterprise value.

In Summary, 

The market capitalization of  BYD Company Ltd ADR was erratic in movement and during 2009 and 2010, the market capitalization was high.  Total debt was 17 percent and its cash and cash equivalent represents 3 percent of the enterprise value.  Purchasing the entire business, the investor would be paying  86 percent equity and 14 percent debt.

The purchasing price to date May 4, 2013, would be $11 billion at $9.45 per share.  The market price to date was $7.36 per share.

Net Current Asset Value

The net current asset value tells us that the stock price of BYD was overvalued because the stock was trading above the liquidation value of the company.

MC/NCAV

The MC/NCAV approach shows that the stock was overvalued because the ratios exceeded the 1.2 ratios. Further, the margin of safety was 49 percent average. The average intrinsic value was $14.41 per share, while the earnings per share were averaging $0.74. Further, the annual growth rate was 16.39 percent average. The results of the calculation show that the average sustainable growth rate was 3.7 percent. And the return on equity was 3.7 as well because there was a zero payout ratio.

P/E*EPS

The relative method indicates that in the P/E*EPS valuation the stock price was undervalued. Because the enterprise value was lesser than the P/E*EPS ratio. The price represents 764 percent and the earnings were -664 percent.

EV/EBITDA

EV/EBITDA tells us that it will take 4 times of the cash earnings to recover the costs of buying.

 

Research and written by Criselda

Interested to learn more about the company? Here’s an investment guide for a quick view, company research to know more about its background and history; and value investing guide for the financial status.

Genco shipping

Genco Shipping & Trading Ltd. (GNK) Worth Buying?

May 17th, 2013 Posted by Investment Valuation No Comment yet

Genco Shipping & Trading Ltd (GNK). Dry bulk cargoes have continuously increased including commodities like iron ore, coal, grain, and other materials, would this be the best time to consider shipping companies in our portfolio?

Genco Shipping Value Investing Approach  

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

Genco Shipping Investment in Enterprise Value     

The concept of enterprise value is to arrive at a cost to purchase the entire business. In other words, the Enterprise Value (EV) is the present value of the entire company. Market capitalization, on the other hand, is the total value of the company’s equity shares. In essence, EV is the company’s theoretical takeover price, since the buyer would have to buy all of the stock and pay off existing debt and take all any remaining cash.

GNK EV

Explanation

The market capitalization was erratic in movement. The total debt was 86 percent of the enterprise value, while its cash and cash equivalent were 10 percent. As a result, enterprise value was greater by 76 percent against the market capitalization. Let’s say you are the investor, you would be paying 24 percent of the equity and 76 percent of its total debt if you decided to buy the entire company of Genco Shipping & Trading Limited.

As additional information, the takeover price of  Genco Shipping and Trading Ltd to date April 23, 2013, would be $1.5 billion at $36.21 per share. The market price to date was $1.59 per share.Genco Shipping was too leveraged.                           

Benjamin Graham Stock Test

Net Current Asset Value (NCAV) Approach  

Graham developed and tested the net current asset value (NCAV) approach between 1930 and 1932. Graham reported that the average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20 percent. An outside study showed that from 1970 to 1983, an investor could have earned an average return of 29.4 percent by purchasing stocks that fulfilled Graham’s requirement and holding them for one year.

Net Current Asset Value (NCAV) Method   

Benjamin Graham’s Net Current Asset Value (NCAV) method is well known in the value investing community.  Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly.

The reason for this according to Graham is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain and worth buying.

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

GNK NCAV

Explanation

The net current value approach of Benjamin Graham indicates that the stock price of Genco Shipping was overvalued from 2008 up to the trailing twelve months because the stock is trading above the liquidation value of the company. The 66 percent ratio represents only 18 percent of the market price.  It indicates that the stock of GNK has not passed the stock test by Benjamin Graham because the price was expensive.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation           

Another approach by Benjamin Graham is by calculating market capitalization over the net current asset value of the company. The result should be less than 1.2 ratios. Graham will only buy if the ratio does not exceed 1.2 ratios. 

Market Capitalization / NCAV = Result (must be lesser than 1.2)     

 Genco Shipping and Trading Limited

Further, the MC/NCAV approach of Benjamin Graham tells us that the stock of Genco Shipping is overvalued because the ratio exceeded the 1.2 ratios of 2008 up to the trailing twelve months. Therefore, the stock did not pass the stock test by Benjamin Graham and is not a good candidate for Buy.

Benjamin Graham’s Margin of Safety (MOS)  

The basic meaning of “Margin of Safety” is that investors should only purchase security when it is available at a discount to its underlying intrinsic value or what the business would be worth if it were sold today. It requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole. This formula is measured by the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between these two values is called the margin of safety.

Further,

Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below.  The enterprise value because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

Using the formula Margin of Safety = Enterprise Value – Intrinsic Value

 Genco Shipping and Trading Limited

Explanation

The result of the calculation of margin of safety was 36 percent average of 2008. The average did not pass the requirement of Benjamin Graham of at least 40 percent below the true value of the stock. The intrinsic value was $84.96 average while the enterprise value was $48.37 average.

Intrinsic Value

Going forward, the formula for intrinsic value was:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate)   

The explanation in the calculation of intrinsic value was as follows:

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-  term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham proposed an 8.5, but we changed it to 9); and
  • 2: the average yield on high-grade corporate bonds.

 Genco Shipping and Trading Limited

Explanation

The table above for intrinsic value tells us that the average earnings per share were $0.94, while the sustainable growth rate was 0.60 percent.  In addition, the annual growth rate was 10 percent average.

The earning per share represents the portion of a company’s earnings, net of taxes and preferred stock dividends, that is allocated to each share of common stock.

The formula for earning per share was:

     EPS

Sustainable Growth Rate

Sustainable growth rate (SGR) shows how fast a company can grow by using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know the dividends paid. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable growth rate = ROE x (1 – dividend-payout ratio)
GNK SGR

As shown above that the average return on equity was 3.42 percent. The average payout ratio was 23 percent. Genco Shipping paid its dividends in 2008. A zero payout ratio the succeeding periods up to the trailing twelve months.

Return on Equity

Return on equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates.  

  ROE

Another way of calculating the sustainable growth rate. This is by using the average approach. The average approach takes into consideration the prior period’s performance of the company. Comparing the results using these two approaches the results presented in the table below.

  GNK Relative

Explanation

By using the relative approach, the result of the margin of safety was higher, than by using the average approach. Because the margin of safety in 2007 was zero percent, it takes into consideration the prior periods performance. 

GNK Graph

Explanation

As we can see, the intrinsic value line was erratic in movement, ups, and down trends from 2008 to the ttm. While the enterprise value remains stable in its movements at an average rate of 2 percent. In 2009, the intrinsic value soared up high at a rate of 764 percent, then it dropped by -96 percent to 2011, then went up a little again then another down.

Genco Shipping Relative Valuation Methods     

The core concept of relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)

  GNK PE EPS

Explanation

The stock price of Genco Shipping was overvalued because the P/E/EPS ratio was lesser than the price. The ratio represents only 22 percent of the price.  Further, it indicates that the stock price of GNK was expensive using the P/E*EPS method.

Walking forward, there is another way of calculating this metric and that is by using the average approach.

 Genco Shipping and Trading Limited

The Enterprise Value (EV) /Earning Per Share (EPS) or (EV/EPS)      

The use of this ratio is, to separate price and earnings in the enterprise value. This metric will tells us the the price (P/E) and the difference represents the earnings (EPS).

GNK EV EPS

Explanation

The EV/EPS method tells us that the price (P/E) that was separated from the price was 31 percent and the earnings (EPS) was a 69 percent average. The result of this method is either over or undervalued. It depends on upon the analyst’s own discretion. This is the price that the investor is willing to pay in buying the stock of Genco Shipping.

Enterprise Value (EV) / Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)                

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings. This metric is useful for analyzing and comparing profitability between companies and industries. It tells us how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

GNK EV EBITDA

Explanation

It will take 12 years to cover the costs of buying the entire business of Genco Shipping. In other words, it will take 12 times of the cash earnings of the company to recover the purchase price.  It is used to measure the profitability of the company. Twelve years to generate cash to cover the costs is a long period of waiting.

Conclusion

The stock price was overvalued and there was no margin of safety. Therefore, I recommend a HOLD on the stock of Genco Shipping and Trading Ltd.

Research and Written by Cris

 

DryShips-inc-drys

What Makes DryShips Inc (DRYS) Overvalued?

May 3rd, 2013 Posted by Investment Valuation No Comment yet

DryShips Inc (DRYS).

The significance of investment valuation is such that an investor would know if this is the right time to buy considering the market value of the company. It’s like knowing and understanding the opportunity ahead of you. Of course, it’s not only the market price but also the financial health, as well as the management and background of the company, that we should consider.

DryShips Inc was the leader among its peers however the company is experiencing a tough period in the past five years. The global trade was extremely slow resulting in a miserable time in the shipping industry.

DRYS Value Investing Approach               

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. I calculated first the enterprise value as our first step. I believed this is important because it measures the total value of the company.

DRYS Investment in Enterprise Value      

The concept of enterprise value is to calculate what it would cost to purchase an entire business.  In essence, EV is the company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt while pocketing any remaining cash. Further, this gives the buyer solid grounds for making an offer.

DRYS EV

Explanation

The enterprise value approach shows that the market capitalization of DryShips Inc was high during 2010 and went down by 58 percent the following period. The result was erratic in movement.  When it comes to total debt, the average was 82 percent of the enterprise value while cash and cash equivalent were an 8 percent average. This makes the enterprise value greater than the market value by 379 percent. Buying the entire business of DRYS the investor will be paying 73 percent of total debt and 27 percent equity. This is the equation that an investor is willing to pay.

Likewise, the purchase price for the entire business of DryShips Inc, to date April 16, 2013, was $4.8 billion at $12.63 per share. The market price to date was $1.82 per share.

Net Current Asset Value (NCAV) Method                  

Net Current Asset Value (NCAV) method is well known in the value investing community. Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly.

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.
DRYS NCAVPS

The net current asset value approach indicates that the stock price of DryShips Inc was overvalued from the period 2008 up to the trailing twelve months because the price was greater than the 66 percent ratios.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation  

We can know if the stock is trading over or undervalued by simply calculating market capitalization over the net current asset value of the company. The result should be less than 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)
DRYS MC NCAV

The MC/NCAV valuation shows that the stock price of the company was overvalued from 2008 up to the trailing twelve months because the ratio was over the 1.2 ratios.

The margin of Safety (MOS)                    

The margin of Safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole. In my calculation, I used the enterprise value because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

The margin of safety was calculated as Margin of Safety = Enterprise Value – Intrinsic Value

DRYS MOS

Explanation

The table above shows that the average margin of safety for DryShips Inc was 27 percent. As indicated in the table, there was zero margin of safety from 2009 up to 2012. It tells us that the stock did not pass the requirement of at least 40 percent below the intrinsic value. Therefore, the stock may not be a good candidate for a Buy

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)  

The explanation in the calculation of intrinsic value was as follows:

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham  proposed an 8.5, but we changed it to 9); and
  • 2: the average yield of high-grade corporate bonds.

DRYS IV

Explanation

The calculated average intrinsic value was $76, while the annual growth rate was -6 percent. In addition, the earnings per share were -$1.53 average. The net earnings of DryShips Inc were negative from 2008 up to the trailing twelve months except in 2010. The company was very unprofitable and was not efficient in generating sufficient revenue for its business operation.

The formula for earning per share was:

EPS

Sustainable Growth Rate

On the side note, sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable growth rate = ROE x (1 – dividend-payout ratio)

DRYS SGR

Explanation

The calculated average sustainable growth rate was -8 percent and same with the return on equity because there was zero payout ratio from 2008 up to the trailing twelve months. This means that DryShips Inc is not paying dividends to its shareholders.

Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners.  Return on Equity shows how many dollars of earnings result from each dollar of equity.

ROE

There is another way of calculating the sustainable growth rate and that is by using the average approach. This average approach takes into consideration the prior year’s performance. Walking further, the table below will show us the results of using the two approaches.

Relative and Average Approach

DRYS Relative

By using the relative approach, the margin of safety is higher than by using the average approach.

Further, let us walk a little closer on the intrinsic value through this graph.

DRYS Graph

Explanation

The intrinsic value line which is the true value of the stock was very much higher than the price in 2008, then it drops by 98 percent the following period. Then it continuously drops up to the trailing twelve months nearing the line of zero. The margin of safety is the space in between these two lines and if we put it in figures, the average would be 27 percent. The difference between the true value and the price is the margin of safety. These two lines cannot be separated; it is the company value and the market value.

DRYS Relative Valuation Methods  

The concept of relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)      

This valuation will determine whether the stock is undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.
DRYS PE EPS

The P/E*EPS ratio was only 18 percent of the price, therefore the price was expensive.

Using two approaches, the table below will show us the difference.

DRYS Relative PE

The relative approach produces better results as seen above.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)      

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E) and the difference represents the earnings (EPS).

DRYS EV EPS

Explanation

The EV/EPS valuation tells us that the price (P/E) that was separated from the enterprise value was -118 percent, while the earnings (EPS) was 218 percent. The result was negative because the net earnings were also negative.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).                     

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.

DRYS EV EBITDA

The EV/EBITDA tells us that it will take 21 years to cover the costs of buying the entire company. It will take 21 times of the cash earnings of DRYS to recover the cost of purchasing. The EBITDA/EV was 10 percent. It also shows that DryShips was unprofitable in generating cash for the business operation.

An Overview,

The market capitalization of DRYS was erratic in movement. Further, its total debt was averaging 82 percent of the enterprise value. While its cash and cash equivalent were 8 percent average, thus enterprise value is greater than the market value by 379 percent. Buying DRYS, an investor will be paying 73 percent of total debt and 27 percent equity. This is the equation that an investor is willing to pay.

The purchase price for the entire business to date April 16, 2013, was $4.8 billion at $12.63 per share. The market price to date was $1.82 per share.

Net Current Asset Value

The net current asset value approach shows that the stock price was overvalued. Because the stock was trading above the liquidation value of the company.  Consequently, the MC/NCAV approach tells us that the stock was overvalued due to the ratio exceeded the 1.2 ratios.

Margin of Safety

Furthermore, the margin of safety was 27 percent average. The growth of DRYS represents as follows: Sustainable Growth Rate was -8 percent; annual growth rate was -6 percent; return on equity was -7.66 percent; earnings per share was -$1.53; and the intrinsic value was $76 average.

Relative Valuation

The relative valuation shows that the stock price was overvalued. Further, the price was greater than the P/E*EPS ratio. The EV/EPS tells us that the price (P/E) -118 percent and the earnings (EPS) was 218 percent.

EV/EBITDA

The EV/EBITDA tells us that it will take 21 years to recover the costs of buying DRYS. In other words, it will take 21 times of the cash earnings to recover the cost of purchasing.

Bottom line, the stock price of DryShips Inc (DRYS) was overvalued and the stock has no margin of safety. In addition, the EV/EBITDA was not impressive and unprofitable. Hence, a SELL position is recommended in the stock of DryShips Inc.

Research and Written by Cris

Interested to learn more about the company? Here’s an investment guide for a quick view, company research to know more about its background and history; and value investing guide for the financial status.

Navios Maritime nm

Navios Maritime Holdings Inc (NM) Investment Valuation

April 24th, 2013 Posted by Investment Valuation No Comment yet

Navios Maritime Holdings Inc (NM) Investment Valuation.

Navios Maritime Value Investing Approach    

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

Novios Maritime Investment in Enterprise Value       

The concept of enterprise value is to calculate what it would cost to purchase an entire business.

NM EV

The market capitalization of Navios Maritime Holdings Inc was erratic in the movement from 2007 with an average trend of 33 percent. The total debt was 85 percent of the enterprise value, while its cash and cash equivalent were only 11 percent average. The market capitalization was only 26 percent of the enterprise value because of its debt. Let say you are the investor, buying the entire business of Navios Maritime would make you pay for 74 percent of its total debt and 26 percent of equity.

The buying price of the entire business of Navios Maritime to date, April 6, 2013, will be $1.7 billion at $15.55 per share.  The market price to date was $4.34 per share. Navios Maritime was 74 percent leverage against enterprise value.

Net Current Asset Value (NCAV) method

Net Current Asset Value (NCAV) method is well known in the value investing community. Studies have all shown that NCAV method of selecting stocks has outperformed the market significantly. The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

NM NCAVPS

The net current asset value approach on Navios Maritime Holdings Inc, tells us that the stock price was trading at an overvalued price from the period 2007 because the 66 percent ratio was only 4 percent of the market price.

It shows that the stock price was expensive because the stock traded above the liquidation value of Navios Maritime.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation       

By calculating market capitalization over the net current asset value of the company, we can determine whether the stock is trading over or undervalued. The result should be less than 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)
NM MC NCAV

The MC/NCAV method shows that the stock was overvalued from the period 2008 to 2012 because the ratio exceeded the 1.2 ratios.

 Navios Maritime Margin of Safety (MOS)         

The basic meaning of “Margin of Safety” is that investors should only purchase security when it is available at a discount to its underlying intrinsic value or what the business would be worth if it were sold today.

The margin of safety was computed as Margin of Safety = Enterprise Value – Intrinsic Value.

NM MOS

The margin of safety for Navios Maritime was 34 percent average. There was zero margin of safety for 2009, 2011 and 2012. The margin of safety has not reached the requirement of Benjamin Graham of 40 percent below the intrinsic value; therefore, the stock is not a candidate for buying.

Intrinsic Value

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)    

The explanation in the calculation of intrinsic value was as follows:

  • EPS: the company’s last 12-month earnings per share;
  • G: the company’s long-  term (five years) sustainable growth estimate;
  • 9: the constant represents the appropriate P-E ratio for a no-growth company and
  • 2: the average yield of high-grade corporate bonds.

NM IV

Earnings per Share

Earnings per share and the growth factor the calculation for intrinsic value. The earnings per share were average $1.05, while the annual growth was 34 percent. On the other hand, the average intrinsic value was $60.52.

The formula for the earning per share.

EPS

The Sustainable Growth Rate

Sustainable growth rate (SGR) shows how fast a company can grow by using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable-growth rate = ROE x (1 – dividend-payout ratio)

NM SGR

Explanation

The result of the calculation for sustainable growth rate shows that the average SGR was 12.45 percent. The return on equity was 16 percent average and the payout ratio was 42 percent average.

Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. This shows how many dollars of earnings result from each dollar of equity.

Return on Equity formula is:

ROE

The Relative and Average Approach

Now, there are two ways of computing the sustainable growth rate, the relative approach, and the average approach. I have used the relative approach in the computations above.

NM Relative

The average approach produces a higher margin of safety than by using the relative approach.

NM Graph

Explanation

If you observe on the graph above, there are two lines. these two lines are the intrinsic value line which is the true value of the stock and the price. During 2007, the true value of the stock was high above the market price. Then on 2008, the true value dropped down at a rate of 88 percent and going forward, the value remains at a low level. There was zero margin of safety during 2009, 2011 and 2012 because the true value line was below the price line. The margin of safety is the difference between the two lines, in other words, the space in between is the margin of safety. If we calculate the difference, the margin of safety was 34 percent average.

Navious Maritime Relative Valuation Methods     

The relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock. 

Price to Earnings/Earning Per Share (P/E*EPS)       

This valuation will determine whether the stock is undervalued or overvalued. By multiplying the Price to Earnings (P/E) ratio with Earning per Share (EPS) and then compare it to the enterprise value per share.
NM PE EPS

The P/E*EPS valuation, tells us that the stock price was trading at the overvalued price from 2008 to 2012 because the P/E*EPS ratio was lesser than the enterprise value per share. The ratio represents only 37 percent of the price; therefore, the stock price was expensive.

NM Relative PE

The average approach produces a higher result because it takes into consideration the prior periods performance.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)  

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result will then represent the price (P/E) and the difference represent the earnings (EPS).

NM EV EPS

The EV/EPS valuation tells us that the price (P/E) that was separated from the enterprise value was 28 percent average. While the earnings (EPS) was 72 percent average.  This indicates that the stock price was undervalued because the price was only one-fourth over to the market price.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

NM EV EBITDA

The EV/EBITDA tells us that it will take 7 years to cover the costs of buying the entire business of Navios Maritime. In other words, it will take 7 times of the cash earnings of the company to cover the cost of buying the entire business.

The EBITDA was only 16 percent of the enterprise value. It indicates that the company is not very efficient in generating cash for its daily business operation.

In conclusion, 

The market capitalization was erratic in the movement from 2007 with an average trend of 33 percent. The total debt was 85 percent of the enterprise value, while its cash and cash equivalent were only 11 percent average. The market capitalization was only 26 percent of the enterprise value because of its debt. Buying the entire business an investor would be paying 74 percent of total debt and 26 percent of equity.

The buying price of the entire business to date, April 6, 2013, will be $1.7 billion at $15.55 per share.  The market price to date was $4.34 per share. NM was 74 percent leverage against enterprise value.

Net Current Asset Value

The net current asset value approach shows that the stock price was overvalued and was trading above the liquidation value. Therefore it means that it did not pass the stock test.  The MC/NCAV approach shows that the ratio exceeded the 1.2 ratios, therefore the price was expensive.

Margin of Safety

In addition, the margin of safety was only 34 percent average; therefore, the stock is not a good candidate for buying. The sustainable growth rate was 12 percent and the annual growth rate was 34 percent. The company’s return on equity was 16 percent and the earning per share was $1.05 average.

P/E*EPS

The P/E*EPS valuation shows that the stock price of Navios Maritime was overvalued. The EV/EPS indicate that the price (P/E) was 175 percent and the earnings per share (EPS) is -75 percent.  This might indicate that the stock price was expensive.

EV/EBITDA

The EV/EBITDA tells us that it will take 7 years to cover the cost of buying the entire business. Therefore, I recommend a HOLD in the stock of Navios Maritime Holding Inc.

A note to the reader: This recommendation is good only to date, April 6, 2013, and until there are changes in the market price that affect the calculations above. If you are interested to know the current situation of the company on the date of your reading, you can comment and ask us for an update. We are pleased to serve you. Thank you.- Cris 4.06.2013

Research and Written by Cris

safe-bulkers-inc-sb

Safe Bulkers Inc (SB) Investment Valuation

April 12th, 2013 Posted by Investment Valuation No Comment yet

Safe Bulkers Inc (SB) is an international provider of marine dry bulk transportation services transporting bulk cargoes like coal, grain, and iron ore globally. Dry Bulk Shipping deliveries continue to increase at the expected pace, a possibility of positive earnings this year is also expected.

SB logo

SB Value Investing Approach 

This Pricing Model was prepared in a very simple and easy way to value a company for business valuation. This model adopted the investment style of Benjamin Graham, the father of Value Investing.

In essence, Graham’s Value Investing is to purchase a stock at a discount in which the market price is lower than the intrinsic value.  He was looking for companies with a good balance sheet with average debt. In other words, he was looking for undervalued stock.

The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. I calculated first the enterprise value as our first step in the valuation. I consider this important because this is a great measure of the total value of a firm and is often great starting points for negotiation of a business.

SB Investment in Enterprise Value  

The concept of enterprise value is to arrive at a cost to purchase the entire business. In other words, the Enterprise Value (EV) is the present value of the entire company. Market capitalization, on the other hand, is the total value of the company’s equity shares. In essence, EV is the company’s theoretical takeover price, since the buyer would have to buy all of the stock and pay off existing debt and take all any remaining cash. The table below would give us relevant data about SB.

SB EV

Explanation

The market capitalization continues to drop by 27 and 39 percent from 2010 up to 2012, respectively. Its total debt was 59 percent while its cash and cash equivalent were 8 percent, thus, enterprise value was greater by 51 percent against market capitalization. Buying the entire business of Safe Bulkers Inc., an investor would be paying 51 percent debt and 49 percent equity. In addition, the net cash per share was $2.30 per share.

The purchase price of the entire business of SB to date April 10, 2013, would be $894.5 million at $11.93 per share. While the market price to date was $4.99 per share.

Benjamin Graham’s Stock Test         

Net Current Asset Value (NCAV) Approach  

Benjamin Graham created and tested the net current asset value (NCAV) approach between 1930 and 1932. The average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20 percent. An outside study also showed that from 1970 to 1983, an investor could have earned an average return of 29.4 percent by purchasing stocks that fulfilled Graham’s requirement and holding them for one year.

Net Current Asset Value (NCAV) Method 

Benjamin Graham’s Net Current Asset Value (NCAV) method is a well-known value investing community.  Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly. The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

Graham was looking for firms trading so cheap that there was little danger of falling further.  His strategy calls for selling when a firm’s share price trades up to its net current asset value. The reason for this according to Graham is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

SB NCAVPS

Explanation

The net current approach of Benjamin Graham tells us that the stock price of Safe Bulkers Inc was overvalued from the period 2008 up to 2012 because the stock is trading above the liquidation value of SB. It shows that the stock of SB did not pass the stock test of Benjamin Graham, therefore the stock was considered expensive.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation  

By calculating market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios. Graham will only buy if the ratio does not exceed 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)    
SB MC NCAV

As clearly seen in the table above, the MC/NCAV approach shows that the stock was overvalued from the period 2008 up to the period 2012 because the ratios exceeded the 1.2 ratios. Therefore, the stock of Safe Bulkers Inc did not pass the stock test of Benjamin Graham.

Benjamin Graham’s Margin of Safety (MOS)        

The basic meaning of “Margin of Safety” is that investors should purchase security when the market price is lesser than its intrinsic value. The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety.  This is the concept taught by Benjamin Graham and still referred to by Warren Buffett.  Value investing is buying with a sufficient margin of safety, a minimum of 40 to 50 percent below. In the formula below, the enterprise value was used because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

The margin of safety was calculated through the Margin of Safety = Enterprise Value – Intrinsic Value.

SB MOS

Explanation

The average margin of safety for SB’s stock was 67 percent. During 2008, there was zero margins of safety because of the negative sustainable growth rate. However, the following periods from 2009 up to 2012, the margin of safety was impressive. Let me share with you the formula for the intrinsic value.

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)       

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share; G as the company’s long-term (five years) sustainable growth estimate, 9 for the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham  proposed an 8.5, but we changed it to 9); and 2 for the average yield of high-grade corporate bonds.

SB IV

Explanation

The table above shows that the average intrinsic value was -$9.48 because during the period 2008, the fall of the true value of the stock of SB was great. This is due to the negative stockholder’s equity which produces a negative return on equity. The earnings per share and the growth factor the computation for the intrinsic value. Further, the average earnings per share were $1.90 while the annual growth rate was 16.92 percent average.

Earnings per Share

The formula for earning per share was:

     EPS

Sustainable growth rate (SGR), on the side note, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. You need to know its return on equity (ROE) and the dividend payout ratio. From there, multiply the company’s ROE, which is equal to 1 minus the dividend payout ratio. Sustainable growth rate = ROE x (1 – dividend-payout ratio)

  SB SGR

The table above shows that the average return on equity was -13.15 percent from the period 2008.

Return on Equity (ROE), according to the definition, is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. The Return on Equity shows how many dollars of earnings result from each dollar of equity.

Return on Equity

The formula for this is:

ROE

Moving forward, I will present to you a graph which I have prepared to help us understand very well the relationship between the price and the true value of the stock,

SB Graph

Explanation

As we can see, the enterprise value line which represents the price was stable at $14 average, while the intrinsic value which is the true value of the stock was erratic in movement. The true value of the stock factors the earnings of the company and the growth. From 2008 to 2009, it soared up to 177 percent and then it dropped again to 86 percent the following period. It is safe to buy in 2009 because there is a margin of safety. It almost leveled the following years thereafter.

The margin of safety is the space in between these two lines, or in other words, it is the difference between the price and the true value of the stock. Getting the difference would be 67 percent average and this is the margin of safety.

SB Relative Valuation Methods    

The relative valuation methods for valuing a stock is to compare the market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)   

This metric is done by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.

SB PE EPS

The stock price was overvalued because the P/E*EPS ratio was lesser than the enterprise value per share. The average P/E*EPS ratio was 49 percent of the price, thus, the stock is expensive.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)       

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result will then represents the price (P/E) and the difference represents the earnings (EPS).

SB EV EPS

Explanation

The above table for EV/EPS valuation indicates that the price (P/E) was 57 percent average. Earnings (EPS), on the other hand, was 43 percent average. The result of this valuation is at the discretion of the analyst.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).  

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt. 

SB EV EBITDA

Explanation

The EV/EBITDA valuation tells us that it will take 27 years to cover the cost of buying the entire business of Safe Bulkers Inc. Such a very long period of waiting. In other words, it will take 27 times of the cash earnings of the company to cover the purchase price of the entire business.

This valuation also shows the profitability of the company. If you can remember the enterprise value approach, the total debt represents 59 percent of the enterprise value. That was the reason why it will take a long period of waiting to cover the costs. The EBITDA represents only 6 percent of the enterprise value.

Bottom Line

The market capitalization continues to drop by 27 and 39 percent from 2010 up to 2012, respectively. Its total debt was 59 percent while its cash and cash equivalent were 8 percent, thus, enterprise value was greater by 51 percent against market capitalization. Buying the entire business of Safe Bulkers Inc., an investor would be paying 51 percent debt and 49 percent equity. In addition, the net cash per share was $2.30 per share.

The purchase price of the entire business of SB to date April 10, 2013, would be $894.5 million at $11.93 per share. While the market price to date was $4.99 per share.

Net Current Approach

Further, the stock price was overvalued. because the stock is trading above the liquidation value. Therefore, the stock did not pass the stock test of Benjamin Graham. Furthermore, the MC/NCAV approach shows that the stock price was overvalued because the ratios exceeded the 1.2 ratios.

The margin of Safety (MOS)

The average margin of safety for SB’s stock was 67 percent and the average intrinsic value was -$9.48. The average earnings per share were $1.90 while the annual growth rate was 16.92 percent average. In addition, the average return on equity was -13.15 percent.

P/E*EPS

Furthermore, the valuation indicates that the stock price was overvalued. The average P/E*EPS ratio was 49 percent of the price. Thus, the stock is expensive. While the EV/EPS valuation indicate that the price (P/E) was 57 percent average. And the earnings (EPS) was 43 percent average.

EV/EBITDA

The EV/EBITDA valuation tells us that it will take 27 years to cover the cost of buying. In other words, it will take 27 times the cash earnings of the company to cover the purchase price.

Hence, the price was overvalued, therefore, I recommend a HOLD on the stock of Safe Bulkers Inc,

Research and written by Cris
Twitter: criseldarome

Groupon Inc (GRPN) Trading at Overvalued Price

April 10th, 2013 Posted by Investment Valuation No Comment yet

If you were able to have a glance with our previous articles, you may get yourselves familiar with Groupon Inc (GRPN). So to refresh our minds, let me spill some beans here. According to our company research, this company is a local e-commerce marketplace that connects merchants to consumers by offering goods and services at a discounted price.

Alright, so what would be this report all about? This investment valuation would be more of the market value of the company. What seems to happen with its financial accounting, as investors been longing for financial profit since Groupon’s IPO? Let’s find out.

GRPN Value Investing Approach  

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt.

Basis of Valuation

The basis for this valuation is the company’s six years of historical financial records, the balance sheet, income statement, and cash flow statement.  Net present value is one way to decide if an investment is worthwhile by looking at the projected cash inflows and outflows.  cash inflows, these are the expected cash that the company can generate for the period. Cash outflows, on the other side, are the expenditures to be incurred from generating cash inflows. This model does not predict the future but it uses the historical financial data of the company to project a future financial picture that readers may understand parameters that are not easily understood without using a spreadsheet model.

GRPN Discounted Cash Flow Model

This model will show us how to calculate the value. I will walk you through in every step of the calculation. And before we move over to the table below, let us refer first to the formula shown below.

groupon-inc-grpn

Where:

  • Vo is the value of the equity of a business today.
  • CF1 to CFn represent the expected cash flows (or benefits) to be derived for periods 1 to n.  The discounted cash flow model is based on time periods of time of equal length.  Because forecasts are often made on an annual basis in practice, we use the terms “periods” and “years” almost interchangeably for purposes of this theoretical discussion.
  • r is the discount rate that converts future dollars of CF into present dollars of value.

Now we already knew the formula. Applying this, the result would be:

Discounted Cash Flow Spreadsheet

grupon-inc-grpn

Facts

The discounted cash flow spreadsheet above tells us that the calculated present value of the equity was $744 million at $1.14 per share and at a rate of 25.95 percent. In addition, its future value was $1.9 billion at $2.88 per share. The future value of $2.88 is equal to the present value of $1.14 per share. This means, having a choice of taking the amount of $1.14 per share today, you need to wait for the five-time period to have the $2.88 per share.

Let say you take the $2.88 today; you will have a chance to reinvest the money at the same rate of 25.95 percent, with the equal time periods and will end up having more than $2.88.

Explanation

Furthermore, the capitalization rate used was 15 percent and the return on investment was 25.95 percent.  This was computed based on the trend of ROI in 2011 and 2012 as it is seen that the net earnings of GRPN are increasing.  In addition, the 25.95 percent ROI that was used was the projected ratio. Moreover, the calculated present value of Groupon Inc was $4.9 billion at a rate of $7.51 per share. For the 5th year income, it was $486 million $0.75 per share and the present value of the net income was $241 million.

GRPN Investment in Enterprise Value      

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt while pocketing any remaining cash. This gives the buyer solid grounds for making its offer.

Groupon EV

Explanation

The enterprise value approach tells us that the total debt was zero and its average cash and cash equivalent was 28 percent of the enterprise value. The market capitalization of Groupon Inc. had decreased by 57 percent from 2011 so as to its market price. Buying the entire business of Groupon Inc, an investor will be paying 100 percent of its equity.

The buying price of the entire business of Groupon Inc to this date, March 28, 2013, will be $1.8 billion at $2.73 per share. This is the takeover price of the entire company. While the market price to date was $6.0 per share.

Net Current Asset Value (NCAV) Method                

Net Current Asset Value (NCAV) method is well known in the value investing community. Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly. The reason for this is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

Groupon MC NCAV

The net current asset value approach tells us that the stock price was overvalued because the market price was greater than the 66 percent ratio.  The ratio represents only 4 percent of the price.

The stock price of GRPN indicates that the stock or did not pass the stock test because the stock is trading above the liquidation value of the company, thus, the price was expensive.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation                

    Groupon MC NCAV

The MC/NCAV approach shows that the stock price was overvalued because the ratio exceeded the 1.2 ratios.

 The margin of Safety (MOS)                    

The Margin of Safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole.

Groupon MOS

The table shows that there was zero margin of safety for the stock of GRPN The price and the intrinsic value factor the calculation for margin of safety.   The formula for intrinsic value was:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)  

The explanation in the calculation of intrinsic value was as follows:

EPS is the company’s last 12-month earnings per share; G as the company’s long-term (five years) sustainable growth estimate; 9 is for the constant that represents the appropriate P-E ratio for a no-growth company, and 2 is the average yield of high-grade corporate bonds.

Groupon IV

Explanation

The result of the calculation shows that the average intrinsic value was -$5.94. The result was negative because the earnings per share were negative due to negative net earnings.  Earnings per share were -$0.57 average, in addition, the annual growth rate was 18.25 percent average.

Earnings per Share

Since we mentioned earnings per share already, why don’t we have some additional information so we can get to know more of those terminologies mentioned above? Let’s start with the formula for EPS.

EPS

The term earnings per share (EPS) represents the portion of a company’s earnings, allocated to each share of common stock. The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. Because the number of shares outstanding can fluctuate, a weighted average is typically used.

Sustainable Growth Rate

Walking further, I will lead you to the way through our understanding of GRPN sustainable growth rate. The sustainable growth rate (SGR) shows how fast a company can grow by using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know the return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Simplifying the thing, we can get this formula: Sustainable growth rate = ROE x (1 – dividend-payout ratio)

Groupon SGR

Explanation

The calculation of the sustainable growth rate indicates that the average return on equity was 4.6 percent, so as with the return on equity because there were zero payout ratios.  The company is not distributing dividends to its shareholders.

Return on Equity

ROE

Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. Return on Equity shows how many dollars of earnings result from each dollar of equity.

Intrinsic Value

Now, let us work a little more and see what the graph would reveal us. The graph below would make us fully understand the relationship of a price to the true value of GRPN’s stock. The result would be the margin of safety that Benjamin Graham taught us.

Groupon Graph

Explanation

Above graph shows the enterprise value line which represents the price was far above the intrinsic value line or the true value of the stock. As we noticed, it was below the zero lines, meaning, there was zero value for the stock of Groupon Inc.  The space between these two lines is the margin of safety, or in other words, the difference between the true value and market value is the margin of safety.  Since the true value was below zero, it means that there was no margin of safety.  Therefore buying the stock of GRPN gives us no safety. What does it mean? It means that it will be risky to buy the stock at this period.

GRPN Relative Valuation Methods       

The purpose of relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock. 

Price to Earnings/Earning Per Share (P/E*EPS)      

Groupon PE EPS

The P/E*EPS valuation tells us that the stock was trading at an undervalued price because the enterprise value was lesser than the P/E*EPS ratios. The price represents only 81 percent average of the ratio, therefore the stock price is cheap.

The Enterprise value (EV)/Earning per Share (EPS) or (EV/EPS)     

Groupon EV EPS

The EV/EPS valuation indicates that the price (P/E) that was -231 percent, while the earnings (EPS) were 331 percent, thus making it 100 percent.  The result for P/E was negative because EPS was negative.

Enterprise Value (EV)/ Earnings before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).                                

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.
Groupon EV EBITDA

Explanation

The EV/EBITDA tells us that it will take -8 years to cover the costs of buying the entire business. In other words, it will take -8 times of the cash earnings to cover the purchase price. This means, there is no definite period when to cover the costs of buying.

This valuation also shows the profitability of the company. It shows that the management is not efficient in generating sufficient revenue for its daily operations. Its gross margin and net margin were 66 percent and -2.89 percent, respectively.

In conclusion,

The discounted cash flow spreadsheet above tells us that the present value of the equity was $744 million at $1.14 per share at a rate of 25.95 percent.  In addition, its future value was $1.9 billion at $2.88 per share. The future value of $2.88 is equal to the present value of $1.14 per share. Moreover, the calculated present value of Groupon was $4.9 billion at a rate of $7.51 per share.  The 5th year income was $486 million $0.75 per share and the present value of the net income was $241 million.

The Enterprise Value Approach

The enterprise value approach tells us that the total debt was zero. Further,  its average cash and cash equivalent was 28 percent of the enterprise value. The market capitalization has decreased by 57 percent from 2011 so as its market price. Buying the entire business of GRPN, an investor will be paying 100 percent of its equity.

The buying price of the business to this date, March 28, 2013, will be $1.8 billion at $2.73 per share. This is the takeover price of the entire company. Its market price to date was $6.0 per share.

Net Current Asset Value

The net current asset value valuation tells us that the stock price did not pass the stock test. Because the stock is trading above the liquidation value, thus the price was expensive. In addition, the MC/NCAV approach tells us that the stock was also expensive because the ratio exceeded the 1.2 ratios.

Interpretation

There was zero margin of safety for the stock of Groupon Inc. while the average intrinsic value was -$5.94.  The earnings per share were -$0.57 average, in addition, the annual growth rate was 18.25 percent average.  The sustainable growth rate indicates that the average return on equity was 4.6 percent. So as with the return on equity because there were zero payout ratios.

P/E*EPS

The P/E*EPS valuation tells us that the stock was trading at the undervalued price. The price represents only 81 percent average of the ratio. Therefore the stock price is cheap. Furthermore, the EV/EPS indicates that the price (P/E) -231 percent. While the earnings (EPS) were 331 percent, thus making it 100 percent.  The stock price was overvalued.

EV/EBITDA

EV/EBITDA tells us that it will take -8 years to cover the costs of buying the entire business. In other words, it will take -8 times of the cash earnings to cover the purchase price. This means, there is no definite period when to cover the costs of buying.

Overall

It shows that the stock of GRPN was trading at an overvalued price. And in addition, there was zero margin of safety showing that the company is financially unhealthy or unstable. Therefore, I recommend a SELL in the stock of Groupon Inc (GRPN).

Research and Written by Cris

zynga-inc-zyga

ZYNGA Inc (ZYGA) Stock Price Fairly Valued?

April 4th, 2013 Posted by Investment Valuation No Comment yet

ZYNGA Inc (ZYGA), the star company of this investment valuation report is really popular to me. I can’t let a single day to passed without playing Farmville. I bet you heard that game already. The company is said to be moving away from using Facebook.com as the main way to access its game. ZYNGA INC is new in IPO, its market value had increased by 44 percent from 2012 to the trailing twelve months 2013.

ZYGA Value Investing Approach 

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

Discounted Cash Flow Model  

This model will show us how to calculate the value. We will walk through in every step of the calculation. Before we move over to the table below, here’s the formula used:

DCF Formula

Where:

  • Vo is the value of the equity of a business today.
  • CF1 to CFn represent the expected cash flows (or benefits) to be derived for periods 1 to n.  The discounted cash flow model is based on time periods of time of equal length.  Because forecasts are often made on an annual basis in practice, we use the terms “periods” and “years” almost interchangeably for purposes of this theoretical discussion.
  • r is the discount rate that converts future dollars of CF into present dollars of value.

Discounted Cash Flow Spreadsheet   

Zynga DCF Spreadsheet

Facts

The above-discounted cash flow spreadsheet was based on a ten-year historical data for revenue, expense, and equity plus the dividend data together with its ratios. The capitalization rate used was 15 percent and the return on investment was 7 percent, which is the average ROI from the period 2007. The price that was used was the average of 2007 to 2012, which is $5.89.

Explanation

The calculated present value of ZNGA’s equity was $2.58 per share at a rate of 7.06 percent, with a total amount of $1.6 billion. The future value was $3.39 per share for a total amount of $2.2 billion.  This future value of $3.39 is equal to the present value of $2.58 per share. This means, having a choice of taking the amount of $3.39  today, you need to wait for the 6 time periods to have the $3.39 per share. If you take the $3.39 today, you will have a chance to reinvest the money with the same rate of 7.06 percent, with the equal time periods and will end up having more than $3.39.

On the other hand, the future price of its equity was $1.66 per share for a total amount of $2.2 billion. Furthermore, the calculated 5th-year income was $29.10 per share.

ZYGA Investment in Enterprise Value     

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.

Formula:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

Zynga EV

Explanation

ZYNGA INC was new in IPO and was operating its business since the second quarter of 2007. The market capitalization of the company had increased by 44 percent from 2012 up to the trailing twelve months. The total debt was $100 million equivalent to 10 percent of the enterprise value, while cash and cash equivalent were 349 percent of the enterprise value. Because the cash was greater than the market value during 2012, thus, this makes enterprise value negative. The market capitalization of ZNGA had increased by 44 percent from 2012 up to the trailing twelve months.

The purchase price for the entire business of ZYNGA INC to date, March 25, 2013, was $1.1 billion at $1.55 per share.  This is the takeover price for ZNGA.  Market price to date, on the other hand, was $3.42 per share.

Benjamin Graham’s Stock Test      

Net Current Asset Value (NCAV) Approach            

Studies have all shown that the net current asset value (NCAV) method of selecting stocks has outperformed the market significantly. According to Graham when a stock is trading below the net current asset value per share, they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying. The concept of this method is to identify stocks trading at a discount to the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value.
Zynga NCAVPS 

In 2011, the stock price of the ZYGA was undervalued because the enterprise value was negative. This means that the 66 percent ratio was greater than the price. Moreover, during 2012, the stock price was overvalued because the price was greater than the 66 percent ratio. 

Furthermore, if we take the average ratio, the enterprise value which represents the price was $0.61, while the average 66 percent ratio was $2.16. So, overall the stock price was undervalued because the price was lesser than the 66 percent ratio. Thus, indicating that the stock price has passed the stock test of Benjamin Graham.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation 

The MC/NCAV approach of Benjamin Graham is another way of testing the stock; whether it was under or overvalued. The result should be less than 1.2 ratios. Graham will only buy if the ratio does not exceed 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)    

Zynga MC NCAV

The above table shows us that the stock price was fair valued in 2011.  For the reason, the ratio was 1.2 and did not exceed the 1.2 ratios and it was not lesser.  On the other hand, in 2012, the stock price was overvalued because the ratio was greater by 126 percent. Therefore, the stock did not pass the stock test of Benjamin Graham.

Benjamin Graham’s Margin of Safety (MOS)   

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety.

Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.

Zynga MOS

Explanation

The margin of safety shows that there was a zero margin of safety for ZYGA from 2011 to 2012 because the intrinsic value was negative.  The formula for intrinsic value was:

Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable  Growth Rate)  

The explanation in the calculation of intrinsic value was as follows:

  • EPS or the company’s last 12-month earnings per share;
  • G as the company’s long-term (five years) sustainable growth estimate;
  • 9 is the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham proposed an 8.5, but we changed it to 9);
  • 2 for the average yield of high-grade corporate bonds.

Zynga IV

The earnings per share and the growth factor the calculation for the intrinsic value.  The average intrinsic value was -$11, while the growth was an average of 21 percent. In addition, the average earnings per share were $0.84.

EPS

Earnings per Share (EPS)

The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term.

Sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know the return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable Growth Rate (SGR)

Sustainable growth rate = ROE x (1 – dividend-payout ratio). 

Zynga SGR

The sustainable growth rate was 5.92 percent average. There was a zero payout ratio because ZYGA was not paying dividends to its stockholders. While the return on equity was averaging 5.92 percent as well, the same as the sustainable growth rate because there was no payout ratio.

Return on Equity (ROE)

Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. This shows how many dollars of earnings result from each dollar of equity. The Return on Equity formula is:

ROE

Below is the graph of the intrinsic value of ZYGA.

Zynga Graph

Explanation

As what we can see, the intrinsic value line which represents the true value of the stock of ZNGA was under the zero line. This means that the true value of the stock was negative. On the other hand, the enterprise value which represents the price was higher than the true value, meaning there was no margin of safety in the stock of ZNGA.  As a result of that, the stock of ZYGA did not pass the requirement of Benjamin Graham of at least 40 percent below the true value of the stock.

ZYGA Relative Valuation Methods    

The purpose of relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock. 

Price to Earnings/Earning Per Share (P/E*EPS) 

This valuation will help us determine whether the stock is undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS). And then we will compare it to the enterprise value per share.

   Zynga PE EPS

The PE*EPS valuation tells us that the stock was trading at an undervalued price because the price was lesser than the PE*EPS ratio. The enterprise value was only 8 percent of the PE*EPS ratio, thus the stock was trading cheaply.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)  

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E) and the difference represents the earnings (EPS).
Zynga EV EPS

The EV/EPS valuation tells us that the price (P/E) was -421 percent, while the earnings (EPS) was 521 percent.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).       

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt. Let’s find out.

Zynga EV EBITDA

Explanation

The EV/EBITDA valuation tells us that it will take 2 years to cover the purchase price of buying. In other words, it will take two times the cash earnings of the company to cover the cost of buying.

This valuation also shows whether the company is profitable or not.  The average gross margin of 2009 was 68 percent. And the net margin for the trailing twelve months was 16.35 percent.

In conclusion, 

The present value was $2.58 per share at a rate of 7.06 percent, with a total amount of $1.6 billion. While the future value was $3.39 per share, a total amount of $2.2 billion.  Moreover, the future price of its equity was $1.66 per share, a total amount of $2.2 billion. Further, the calculated 5th-year income was $29.10 per share.

Enterprise Value

The enterprise value approach tells us that the market capitalization had increased by 44 percent from 2012. The total debt was $100 million, equivalent to 10 percent of the enterprise value. While cash and cash equivalent were 349 percent. Thus, this makes the enterprise value negative during 2012 because cash was greater than the market value. Moreover, the market capitalization of ZNGA had increased by 44 percent from 2012 up to the trailing twelve months.

The purchase price for the entire business of to date, March 25, 2013, was $1.1 billion at $1.55 per share.  This is the takeover price for ZNGA.  While the market price to date was $3.42 per share.

Net Current Asset Value

The 66 percent ratio was greater than the price. Moreover, the stock price was overvalued because the price was greater than the 66 percent ratio.  This implies that the stock price did not pass the stock test of Benjamin Graham.

The margin of Safety (MOS)

Moreover, the margin of safety was a zero because the intrinsic value was negative. The average intrinsic value was -$11, while the growth was an average of 21 percent. In addition, the average earnings per share were $0.84. Furthermore, the sustainable growth rate was 5.92 percent average. The payout ratio was zero because ZYGA was not paying dividends to its stockholders. While the return on equity was averaging 5.92 percent the same with the sustainable growth rate.

Relative Valuation

The relative valuation tells us that in the PE*EPS valuation tells us that stocks were trading at an undervalued price. Because the price was lesser than the PE*EPS ratio. The enterprise value was only 8 percent of the PE*EPS ratio, thus the stock was trading undervalued.

Moreover, the EV/EPS valuation tells us that the price (P/E) -421 percent, while the earnings (EPS) was 521 percent.  This valuation approach depends upon the discretion of the analyst whether the ratio was appropriate or not.

The EV/EBITDA valuation tells us that it will take 2 years to cover the purchase price of buying the business. In other words, it will take two times the cash earnings of the company to cover the cost of buying.   

Overall

The stock price of ZYGAwas fairly valued, and there was zero margin of safety in buying the stock.  Therefore, I recommend a HOLD on the stock of Zynga Inc.

Research and Written by Cris

Microsoft-Corporation-MSFT

Microsoft Corporation (MSFT) Distinguished as High Quality

March 18th, 2013 Posted by Investment Valuation No Comment yet

Microsoft Corporation (MSFT) which is said to be as one of the best companies in America distinguished themselves as high quality. 

MSFT Value Investing Approach 

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

MSFT Discounted Cash Flow (DCF) Model  

This model will show us how to calculate the value. I will walk you through every step of the calculation. The table below shows the historical value of Microsoft. With the formula, here’s how:

DCF Formula

Where:

  • Vo is the value of the equity of a business today.
  • CF1 to CFn represent the expected cash flows (or benefits) to be derived for periods 1 to n.  The discounted cash flow model is based on time periods of time of equal length.  Because forecasts are often made on an annual basis in practice, we use the terms “periods” and “years” almost interchangeably for purposes of this theoretical discussion.
  • r is the discount rate that converts future dollars of CF into present dollars of value.

The equation above is the basic discounted cash flow (DCF) model. 

Discounted Cash Flow Spreadsheet 

This model shows the historical equity, net income and the retained earnings per share together with the projected equity, net income, and the retained earnings. Return on investment, growth and the price to earnings were also calculated and can be seen in the table.

MSFT DCF

Explanation

The above cash flow spreadsheet was based on the ten-year historical data of income and expense as well as the equity and dividends of Microsoft Corporation. The capitalization rate that used was 15 percent and the return on investment was 38.46 percent, which is the average ROI from the period 2008.  The price to earnings that was used was $13, which is the average from the period 2008. The computed present value of MSFT was $64.60 per share for a total amount of $549 million.  For the calculated 5th year income, the result was $11.40 per share for a total amount of $96,974 (in million), discounted at present value. On the other hand, the present value of net income was $42 million.

Interpretation

The calculated present value of equity was $9.00 per share at the rate of 26.92 percent, while the future value at year 6 was $29.64 per share which is equal to the present value of $9.00 per share. You could have taken the money today at $29.64 per share instead of waiting six periods to have it. You would have a chance to reinvest the money today, at the same rate and will have a chance to double the amount, In addition, the future value of equity was $1.3 billion.

MSFT Investment in Enterprise Value  

The concept of enterprise value is to calculate what it would cost to purchase an entire business.

MSFT EV

Explanation

The market capitalization of MSFT was trending up and down at a rate of 5 percent average. The total debt represents 4 percent of the enterprise value, while the cash and cash equivalent represent 25 percent average of the enterprise value, therefore the enterprise value was lesser of 21 percent of the market capitalization. Purchasing the entire business of Microsoft, the investor will be paying 100 percent of its equity and zero debt because the debt has offset by cash and cash equivalent.

The purchase price of the entire business of Microsoft to date, March 15, 2013, will be $181.5 billion at $21.36 per share.  The market price to date was at $28.14 per share.

Net Current Asset Value (NCAV) Method  

Net Current Asset Value (NCAV) method is well-known in the value investing community.  Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly.

When a stock is trading below the Net Current Asset Value per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

MSFT NCAVPS

Explanation

The net current asset value valuation indicates that the stock price of MSFT was overvalued from the period 2008 to the trailing twelve months of 2013 because the 66 percent ratio represents only 11 percent of the market price. This means that the stock of Microsoft Corporation was trading above the liquidation value of the company.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation    

MSFT MC NCAV

Showing the results of MC/NCAV valuation for MSFT, the stock was trading at overvalued prices from 2008 up to the trailing twelve months of 2013 because the result of the ratios exceeded the 1.2 ratios. Further, the 1.2 ratio represents only 16 percent of the average computed ratios.

 The Margin of Safety (MOS)   

The Margin of Safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole. This formula is used to identify the difference between company value and price. The enterprise value was used because it takes into account the balance sheet since it is a much more accurate measure of the company’s true market value than market capitalization.

MSFT MOS

Explanation

The margin of safety for MSFT was an 80 percent average at $111 average. The enterprise value was at $22 average which represents 17 percent of the intrinsic value, while on the other hand, the intrinsic value was at $132.33 average.

Let us find out how to calculate the intrinsic value of MSFT. The formula was:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate)

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share; G as the company’s long- term (five years) sustainable growth estimate; 9 is the constant represents the appropriate P-E ratio for a no-growth company as proposed; and 2 for the average yield on high-grade corporate bonds.

Explanation

Now, that we have learned the formula and the explanation of the calculation, let us now see the results by looking at the table below.

MSFT IV

The earnings per share (EPS) and the sustainable growth rate (SGR) factor the calculation of the intrinsic value. The Earnings Per Share was $2 average from 2008, while the annual growth rate was $64 average and calculated through:

EPS

Sustainable Growth Rate (SGR)

To calculate the sustainable growth rate for a company, you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. 

To simplify, the formula would be: Sustainable growth rate = ROE x (1 – dividend-payout ratio)

Return on Equity (ROE)

ROE

Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. In other words, ROE shows how many dollars of earnings result from each dollar of equity.

MSFT SGR

Explanation

The return on equity was average 39 percent and the payout ratio was 30 percent average from the period 2008. Sustainable growth rate resulted in 28 percent. The other way of calculating the sustainable growth rate was the average approach, using the average ROE.  The table below will show us the difference between the two approaches.

MSFT Relative

As seen in the table,  the average approach produced a higher result because it takes into consideration the previous period’s performance. In addition, the margin of safety in an average approach was 82 percent.

The Intrinsic Value Graph

MSFT Graph

The graph above shows that the enterprise value line was stable at $21 average and was trending at 10 percent average, while the intrinsic value has an erratic movement of ups and down. As we can see, in the period of 2010 and 2011, the intrinsic value line soared up at 57 and 34 percent, respectively. For the reason, during those periods, the growth went up high which resulted in a higher intrinsic value.

Now, the question is “Where is the margin of safety?” The margin of safety is the space in between the two lines, which is the true value line and the price line. To calculate for the margin of safety, simply get the difference of the intrinsic value and the enterprise value and that is your margin of safety.  The average margin of safety was 80 percent.

Price to Earnings/Earning Per Share (P/E*EPS)  

This valuation will determine the status of the stock price because stocks may be undervalued or overvalued. One way to do this is by simply multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.

MSFT PE EPS

Explanation

The P/E*EPS valuation shows that the price was undervalued because the enterprise value was lesser by 18 percent against the P/E*EPS ratio.  The price represents 82 percent of the P/E*EPS ratio.

It tells us that the stock price of Microsoft Corporation was cheap using this valuation.  Another way of calculating this valuation is by the use of the average approach.  Below is the difference between the two approaches.

MSFT Relative PE

The average approach marked a higher result because it takes into consideration past performance.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)        

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E) and the difference represents the earnings (EPS).

MSFT EV EPS

Explanation

The EV/EPS valuation, tells us that the price (P/E) that was 51 percent, while the earnings (EPS) was 49 percent.  This might indicate that the stock is trading at an almost fair price.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).      

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

MSFT EV EBITDA

Explanation

The EV/EBITDA valuation tells us that it will take 7 years to cover the cost of buying the entire business of Microsoft Corporation.  In other words, it will take 7 times of the cash earnings of the company to cover the purchase price.

This valuation also shows the profitability of the company.  The EBITDA represents only 14 percent of the enterprise value; therefore it will take a long period of waiting to cover the purchase price of the entire company. The gross margin and the net margin of Microsoft were 78 and 27 percent average, respectively.

In conclusion,

The present value of MSFT was $64.60 per share for a total amount of $549 million.  The calculated present value of equity was $9.00 per share at the rate of 26.92 percent, while the future value at year 6 was $29.64 per share which is equal to the present value of $9.00 per share. You could have taken the money today at $29.64 per share instead of waiting six periods to have it. You would have a chance to reinvest the money today, at the same rate and will have a chance to double the amount. In addition, the future value of equity was $1.3 billion.

Enterprise Value Approach

The total debt was 4 percent while the cash and cash equivalent were 25 percent. Thus the enterprise value was lesser of 21 percent of the market capitalization.  Buying the entire business is paying 100 percent of its equity.  Meanwhile, the purchase price of the entire business to date, March 15, 2013, was $181.5 billion at $21.36 per share.  The market price to date was at $28.14 per share.

Current Asset Value

The net current asset value approach shows that the stock of MSFT was trading at overvalued prices from 2008. The stock price was expensive because it was trading above the liquidation value of the company. The price was overvalued since the results exceeded the 1.2 ratios.

Margin of Safety

The margin of safety shows that there was a margin of safety at an 80 percent average at $111. The enterprise value was at $22 average which represents 17 percent of the intrinsic value. While the intrinsic value was at $132.33 average. The Earnings Per Share was $2 average from the period 2008, while the annual growth rate was $64 average. In addition, the return on equity was average 39 percent and the payout ratio was 30 percent average. The sustainable growth rate was 28 percent.

The Relative Valuation Approach

Furthermore, the relative valuation method shows that the stock was trading at an undervalued price. The enterprise value represents 82 percent of the P/E*EPS ratio. The EV/EPS valuation shows that the price (P/E) was 51 percent and the earnings (EPS) was 49 percent. This might indicate that the stock is trading at a fair value.

The EV/EBITDA

EV/EBITDA tells us that it will take 7 years to cover the cost of buying the entire business of MSFT.  The gross and net margins were 78 and 27 percent average, respectively.

Overall, the stock of MSFT was trading at fair value, although there was a margin of safety of 80 percent. Therefore, I recommend a BUY in the stock of Microsoft Corporation (MSFT).

Research and Written by Cris

ITT Educational Services Inc (ESI) Investment Valuation

March 12th, 2013 Posted by Investment Valuation No Comment yet

ITT Educational Services Inc (ESI) with a return on equity and a sustainable growth rate of 165 percent, can we consider the stock a buy?

ESI Investment in Enterprise Value    

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

esi ev

Explanation

The market value of ESI was dropping from 2008 to the trailing twelve months.  Total debt was 9 percent while its cash and cash equivalent were 18 percent. Therefore, enterprise value was lesser by 9 percent against the market capitalization. If you decided to buy the entire business of ESI, you would be paying 100 percent of its equity since its cash was greater than the total debt. The buying price to date, March 9, 2013, of the entire business of ESI, will be $216 million at $9 per share. The market price to date was $12.89 per share.

Benjamin Graham’s Stock Test   

Net Current Asset Value (NCAV) Method   

Benjamin Graham’s net current asset value (NCAV) method is well known in the value investing community.  According to Graham when a stock is trading below the net current asset value per share, they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying. The concept of this method is to identify stocks trading below the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value.

 esi ncavps

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation      

In this method, we will know if the stocks are trading over or undervalued by calculating market capitalization over the net current assets. The result should be less than 1.2 ratios. Graham will only buy if the ratio does not exceed 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)

esi mc ncav

The MC/NCAV approach of Benjamin Graham tells us that the stock of ESI was overvalued from 2008 to the trailing twelve months because the ratio was greater than the 1.2 ratios. The average ratio was 13 which is 106 percent over 1.2 ratios. This indicates that the stock did not pass the stock test by Benjamin Graham because the stock price was expensive.

Benjamin Graham’s Margin of Safety (MOS)

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.

 esi mos

Explanation

The margin of safety was 98 percent average. This means there is a sufficient margin of safety in buying the stock of ESI. This is more than the required 40-50 percent below the intrinsic value. Let us walk further on how to calculate the intrinsic value.  The formula for intrinsic value was:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate)   

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share;  G as the company’s long-term (five years) sustainable growth estimate, 9 for the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham  proposed an 8.5, but we changed it to 9); and 2 for the average yield on high-grade corporate bonds.

esi iv

Explanation

The average intrinsic value for ESI was $2946, from the period 2008 to the trailing twelve months. The earning per share and the sustainable growth rate factors the calculation of intrinsic value. In the table above shows, that the average earnings per share were $7.9 and the annual growth rate was  340 percent.

The term earnings per share (EPS) represent the portion of a company’s earnings, net of taxes and preferred stock dividends that were allocated to each share of common stock. The figure can be calculated by simply dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. Because the number of shares outstanding can fluctuate, a weighted average is typically used.

Earnings per Share

The formula for earning per share was:

  esi eps

Sustainable growth rate (SGR), on the side note, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. Return on equity (ROE) is a factor in calculating the sustainable growth rate of a certain company. You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable growth rate = ROE x (1 – dividend-payout ratio)

esi sgr

Explanation

The table above shows that the average sustainable growth rate was the same as the return on equity at 165 percent because there was a zero percent payout ratio. The sustainable growth rate of ESI was decreasing in general at a rate of 3 percent average for the period 2008 up to the trailing twelve months.

Let’s proceed with return on equity or ROE. When we speak of this, we are referring to an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. ROE shows how many dollars of earnings result from each dollar of equity. The formula is:

  esi roe

Now, there are two ways of computing the sustainable growth rate, they are the relative approach and the average approach. I have used the relative approach in the computations above.

ITT Educational Services Inc

 

Relationship of the Intrinsic Value and Margin of Safety in Graph

esi graph

Explanation

The intrinsic value line was very much higher than the enterprise value line. During 2010, the true value of the stock of ESI soared up high at a rate of 111 percent. Then it dropped at a rate of -21 percent in the following year and dropped again in 2012 at a rate of -75 percent. Then it remained stable for the trailing twelve months. On the other hand, the price was average $49 dropping at a rate of 31 percent average. The space between these two lines, which is the true value of the stock and the price, is the margin of safety. After getting the difference between the true value and price, it resulted in 98 percent and that is the margin of safety.

ESI Relative Valuation Methods    

The relative valuation methods for valuing a stock is to compare the market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock. Let’s get into this P/E*EPS.

Price to Earnings/Earning Per Share (P/E*EPS)              

ESI was undervalued because the price was lesser than the P/E*EPS ratio.

esi pe eps

The approach applied in computing the P/E*EPS valuation above was the relative approach. That is by using the average approach. I have prepared a table to compare the two approaches.

esi relative pe

The Enterprise value (EV) /Earning Per Share (EPS) or (EV/EPS)     

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result will then represents the price (P/E) and the difference represents the earnings (EPS).

esi ev eps

Explanation

The EV/EPS valuation tells us that the price (P/E) was 14 percent average. And also, the earnings (EPS) was an 86 percent average. The result of this valuation is either over or undervalued, depending upon the analyst’s discretion; whether the ratio is appropriate or not.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)      

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It shows us how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

esi ev ebitda

Explanation

The EV/EBITDA valuation tells us that it will take 4 years to cover the costs of buying the entire business. In other words, buying ESI will take 4 times the cash earnings of the company to cover the purchase price.

This approach also shows the profitability of the company and the ability of the management in generating cash.  Considering this, ESI’s gross margin was 62 percent average while its net margin was 18 percent average.

Conclusion

Overview, the relative value indicates that the stock price was cheap. Further, the margin of safety was high at a 98 percent average. Furthermore, the return on equity was 165 percent. Therefore, I recommend a BUY on the stock of ITT Educational Services Inc (ESI).

Researched and Written by Cris

bbva-banco-frances-sa-adr-bfr

Is there Safety in Buying BBVA Banco Frances S.A. ADR (BFR)

March 7th, 2013 Posted by Investment Valuation No Comment yet

BBVA Banco Frances S.A. ADR (BFR) Value Investing.

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

BFR Value Investing Approach

This method of valuation approach for BBVA Banco Frances SA (ADR) was based on the Discounted Model.  The historical data were calculated and then we come up with the projected financial data and ratios to come up with the present value of the 6th year period. Net present value is one way to decide if an investment is worthwhile by looking at the projected cash inflows and outflows.  Cash inflows are the expected cash that the company can generate for the period. Cash outflows are the expenditures to be incurred from generating cash inflows.

The model does not predict the future. However,  it uses the historical financial data of the company to project a future financial picture so that readers may understand parameters that are not easily understood without using a spreadsheet model.

Discounted Cash Flow Model 

We’ve mentioned the Discounted Model on the above statement. What is this really? As I’ve found out, this model will show us how to calculate the value.  We used the formula:

DCF Formula

Where:

  • Vo is the value of the equity of a business today.
  • CF1 to CFn represent the expected cash flows (or benefits) to be derived for periods 1 to n.  The discounted cash flow model is based on time periods of time of equal length.  Because forecasts are often made on an annual basis in practice, we use the terms “periods” and “years” almost interchangeably for purposes of this theoretical discussion.
  • r is the discount rate that converts future dollars of CF into present dollars of value.

The table below shows the historical value of BBVA Banco Frances SA (ADR).

Discounted Cash Flow Spreadsheet 

BFR DCF

Explanation

The above-discounted cash flow spreadsheet was based on ten-year historical data for revenue, expense, and equity plus the dividend data together with its ratios. I used a capitalization rate of 15 percent and the return on investment that was used was 25.39 percent, which is the average ROI for 5 year periods, 2008 to 2012. The price that was used, on the other hand, was the current price of 2012, which is $4.24.

Present Value

The calculated present value of BFR’s equity was $36.98 per share with a total amount of $6.6 billion, at a rate of 25.39 percent. The future value was $114.62 per share with a total amount of $20.5 billion.  This future value is equal to the present value of $36.98 per share. This means, leaving you a choice of having $36.35 today or wait for the 6 time periods to have the $114.62 per share. If you take the $36.98 today, you will have a chance to reinvest the money at 25.39 percent, with the equal time periods and will end up having more than $36.98 per share.

On the other hand, the future price of its equity was $48.16 per share with a total amount of $8.6 billion. Furthermore, the calculated 5th-year income was $29.10 per share with a total amount of $5.2 billion, discounted today at the present time.

Data Used

I used the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement as our basis for this valuation. In this model, the enterprise value was calculated first as our first step in the valuation. I consider this important because this is a great measure of the total value of a firm and is often great starting points for negotiation of a business.

BFR Investment in Enterprise Value             

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

BFR EV

Explanation

The market capitalization of BFR was erratic in movement and trending at a rate of 23 percent average. There was zero debt and the cash and cash equivalent was 131 percent of the enterprise value, and its market capitalization was 24 percent of cash and cash equivalent. As a result, the enterprise value was negative. The investor will pay 100 percent of BFR’s equity, no debt if he/she buys the entire business of the company.

The purchase price to date, February 27, 2013, of the entire business of BFR, is negative $7.8 billion because cash and cash equivalent are greater than the market value. In essence, this is the company’s takeover price. The buyer will pay all the total debt and pocket any remaining cash. Since the company has zero total debt, the investor will pocket all the remaining cash left, it is like buying the company for free. The market price to date was $4.24 per share.

Benjamin Graham’s Stock Test     

Net Current Asset Value (NCAV) Method                

Benjamin Graham’s net current asset value (NCAV) method is well known in the value investing community.  Studies have all shown that the net current asset value (NCAV) method of selecting stocks has outperformed the market significantly. According to Graham when a stock is trading below the net current asset value per share, they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying. The concept of this method is to identify stocks trading at a discount to the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value.

BFR NCAVPS

Explanation

Above table tells us that the stock price of BBVA Banco Frances, S.A. ADR was undervalued. The reason is that the 66 percent ratio was greater than the market price, thus, indicating the stock price was cheap.

The NCAVPS indicates that the stock of BFR is trading below the liquidation value of the company. Therefore the stock has passed the stock test of Benjamin Graham. Hence, the stock is a candidate for buying.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation                

By calculating market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios. Graham will only buy if the ratio does not exceed 1.2 ratios.

Market Capitalization / NCAV = Result (must be lesser than 1.2)
BFR MC NCAV

Explanation

The MC/NCAV approach shows that the stock price was undervalued because the ratio has not exceeded the 1.2 ratios. The average ratio was only 0.16, representing only 13 percent of the 1.2 ratios. It indicates that the stock of the BFR stock price was cheap from 2007 to the trailing twelve months 2012.

Benjamin Graham’s Margin of Safety (MOS)                    

The margin of safety is used to identify the difference between company value and price. Which are the market price and the company’s business value or true value. Graham called it the intrinsic value. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety.

Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.

The Margin of Safety (MOS)

The Margin of Safety =  Enterprise Value – Intrinsic Value.

BFR MOS

Since the enterprise value was negative at 8 percent over the intrinsic value, the margin of safety for BFR was over 100 percent which is 118 percent average. It indicates that buying the stock of the company will have an ample margin of safety, meaning the stock is a good candidate for buying.

The Intrinsic Value

The formula was:  Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable  Growth Rate)  

The explanation in the calculation of intrinsic value was as follows:

EPS is the company’s last 12-month earnings per share;  G is the company’s long-term (five years) sustainable growth estimate; 9 as the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham  proposed an 8.5, but we changed it to 9) and 2 for the average yield of high-grade corporate bonds.

BFR IV

Explanation

The intrinsic value was average $252, while the annual growth rate was 45 percent average. The earning per share was $4.7 average. The term earnings per share (EPS) represent the portion of a company’s earnings, net of taxes and preferred stock dividends. The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term.

Earnings per Share

Below is the formula for the earnings per share:

EPS

Sustainable Growth Rate

On the other hand, the sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. Sustainable growth rate = ROE x (1 – dividend-payout ratio).  The table below will make us easily understand the parameters.
BFR SGR

Explanation

The return on equity and a payout ratio factor the calculation of the sustainable growth rate. The average return on equity on the above table was 26 percent, while the payout ratio was 32 percent average. In addition, the average sustainable growth rate was 18 percent average. Return on Equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. In addition, Return on Equity shows how many dollars of earnings result from each dollar of equity.

Return on Equity

CF ROE

Now, there are two ways of computing the sustainable growth rate; the relative approach and the average approach. I computed both approaches for us to know the difference.

BFR RELATIVE

Explanation

The average approach takes into consideration the prior period’s performance. As a result, the table shows that the relative approach produces a higher result, except for the margin of safety, where the average approach was greater by 1 percent.

The graph below which I have prepared to make it more understandable.

BFR GRAPH

Explanation

The graph shows two lines; the enterprise value line and the intrinsic value line. The enterprise value represents the market price, while the intrinsic value is the true value of the stock of BFR. The market value line was below line zero.  It was stable at an average of negative $20. On the other hand, the true value of the stock of BFR was erratic in movement; trending at an average of 163 percent.  During the period of 2011, it dropped at a rate of 67 percent and managed to rise in the trailing twelve months at a rate of 486 percent.

The margin of safety was the space in between these two lines, from 2007 to the trailing twelve months. In order to get the figures for a margin of safety, we have to get the difference between the true value and the market value of the stock, then the result is the margin of safety.  The graph above indicates an average of 118 percent margin of safety. I hope the graph makes you fully understand the real meaning of the margin of safety.

BFR Relative Valuation Methods   

The concept of relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)    

By multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.

BFR PE EPS

Explanation

The stock price of BFR was undervalued because the PE*EPS ratio is greater than the enterprise value. The enterprise value was average 83 percent, negative against the ratio. This indicates that the stock price of BFR was trading at a cheap price.

The Relative and the Average Approaches

There are two approaches in calculating the PE*EPS valuation, the relative approach and the other one is the average approach.  For the calculation above, I have used the relative approach. The table below shows a summary of the results of the two approaches.

BFR RELATIVE

As shown in the table above, the average approach produced a higher result than by using the relative approach. The reason behind this is that the average approach takes into considerations the prior period’s performance.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)      

The use of this ratio is to separate the enterprise value per share by its projected earnings. To do this, we divide the enterprise value per share to earning per share, then the result represents the price (P/E) and the difference represents the earnings (EPS). This separates the price to earnings ratio and the earning per share.

BFR EV EPS

Explanation

The EV/EPS valuation tells us that the price (P/E) was 28 percent average While the earnings (EPS) was a 72 percent average. Because the price was only a little bit over one-fourth of the enterprise value.

The result of this valuation is upon the analyst’s own discretion. Whether the analyst thinks the ratio is appropriate or not.

Enterprise Value (EV) / Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)     

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us also an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

BFR EV EBITDA

Explanation

The EV/EBITDA tells us a result of negative 1. This means that the investor will not wait to cover the cost of buying the entire business. The company has ample cash greater than the market capitalization, thus making the enterprise value a negative amount.

Results showed that BFR was profitable and was able to generate revenue much greater than its operational expenses. The gross margin and the net margin of the company were 86 percent and 61 percent, respectively. The EBITDA was average $2.8 billion, representing -88 percent of the enterprise value.

In conclusion, 

The Discounted Cash Flow spreadsheet shows that the present value of BFR’s equity was $36.98 per share. Or a total amount of $6.6 billion, at a rate of 25.39 percent. The future value was $114.62 per share or a total amount of $20.5 billion.  This future value is equal to the present value of $36.98 per share. Having a choice of taking the $36.98 today. Or the investor can wait for a 6 time period to have the $114.62.

The future price of its equity was $48.16 per share with a total amount of $8.6 billion. Furthermore, the calculated 5th-year income was $29.10 per share with a total amount of $5.2 billion.

Market Capitalization

Moreover, the market capitalization of BFR was erratic in movement and trending at a rate of 23 percent average. There was zero debt and the cash and cash equivalent was 131 percent of the enterprise value. And its market capitalization was 24 percent of cash and cash equivalent. Therefore, the enterprise value was negative.  Buying the entire business the investor will be paying 100 percent of its equity, no debt.

The purchase price to date, February 27, 2013, of the entire business, was negative $7.8 billion. Because cash and cash equivalent are greater than the market capitalization. The market price to date was $4.24 per share.

Net Current Asset Value Approach

The stock price was undervalued  because the stock was trading below the liquidation value of the company. Therefore the stock has passed the stock test of Benjamin Graham. On the other hand, the stock was also undervalued. Because the ratio was only 0.16 average which is below the 1.2 ratios. Therefore, the price was cheap because it passed the stock test of Benjamin Graham.

The Margin of Safety

Furthermore, the margin of safety was 118 percent average, meaning there was safety in buying the stock of BFR.  Intrinsic value, on the other side, was $252 average. The sustainable growth rate was 18 percent and the annual growth rate was 45 percent average.  In addition, the return on equity was averaging 26 percent and the payout ratio was 32 percent average.

Relative Valuation

The stock price was undervalued because the P/E*EPS ratio was greater than the enterprise value. While the EV/EPS shows that the stock price might indicate an undervalued price. Because the price (P/E) was 28 percent, while the earnings (EPS) represents the 72 percent average.

EV/EBITDA

It shows us a result of negative 1, meaning, the investor will not need to wait to cover the costs. This is because the company’s cash and cash equivalent is greater than the market capitalization. And the investor will pocket the remaining cash.  This shows the profitability of the company. Because the management was able to generate revenue which is more than what the company needs for the operation.

Overall

The stock of BFR was trading at an undervalued price from 2007 up to the trailing twelve months. Further, there was huge safety in buying the stock with its margin of safety of 118 percent. The value indicates a yearly increase in the value of 42 percent from its present value to its future value.  Therefore, I recommend a BUY on the stock of BBVA Banco Frances SA ADR (BFR).

A note to the reader:

This recommendation is good only to date, February 27, 2013. Until there are changes in the market price that affect the calculations above. Thank you. 

Research and Written by Cris

Tencent Holdings Limited (0700 HKG) Investment Valuation

February 19th, 2013 Posted by Investment Valuation No Comment yet

Tencent Holdings Limited is a Chinese multinational investment holding conglomerate founded in 1998. The subsidiaries specialize in various Internet-related services and products, entertainment, artificial intelligence, and technology. 

Tencent Value Investing Approach   

This method of valuation approach for Tencent Holdings Ltd was based on the Discounted Model.  The historical data was calculated. And then we come up with the projected financial data and ratios to come up with the net present value of the 6th year period. Net present value is one way to decide if an investment is worthwhile by looking at the projected cash inflows and outflows.

 

Tencent Discounted Cash Flow Approach  

The formula for the discounted cash flow is:

  Discounted Cash Flow

Where:

  • Vo is the value of the equity of a business today.
  • CF1 to CFn represent the expected cash flows (or benefits) to be derived for periods 1 to n.  The discounted cash flow model is based on time periods of time of equal length.
  • r is the discount rate that converts future dollars of CF into present dollars of value.

The equation above is the basic discounted cash flow (DCF) model.

Discounted Cash Flow Spreadsheet

Tencent Combined DCF

Explanation

The Discounted Cash Flow spreadsheet shows the historical income and expense plus the equity data in the total amount and per share.  The present value of equity was $26.35 at a rate of 29.80 percent.  The future value of $96.94 is equal to the present value of $26.35. This means, leaving you a choice of having $26.35 today or wait for the 6 time periods to have $96.94 per share. If you take the $26.35 today, you will have a chance to reinvest the money at 29.80 percent at the same equal time periods which will end up having more than $26.35.  Moreover, the projected net income for year 5 was $32.05 per share a total value of $59.62 billion, while the present value was $25.7 billion.

On the other hand, the capital rate that was used was 15 percent. The future value of equity was $312.9 billion at a future price of $168.25 per share. While the present value of Tencent Holdings Ltd was $135 billion at $72.74 per share. The return on investment that was used was 33.07 percent. While the price to earnings that were used in the calculation was $5 and it’s earning per share was $8.71.  The current market price, February 13, 2013, was $35.10 per share.

Tencent Investment in Enterprise Value   

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise Value (EV) is the present value of the entire company. Market capitalization, on the other hand, is the total value of the company’s equity shares. In essence, EV is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt while pocketing any remaining cash. This gives the buyer solid grounds for making its offer.

Tencent EV

Explanation

The market capitalization for Tencent Holdings Ltd was increasing except in 2011 where it experienced a drop of 8 percent. The total debt represents 6 percent average, while the cash and cash equivalent represent a 78 percent average. As a result, the enterprise value was lesser by 72 percent against the market capitalization. If an investor decides to buy the entire business of Tencent Holdings Ltd, then he/she will be paying 100 percent of its equity, no debt, because cash was greater than the total debt.

The purchase price to date February 13, 2013, in buying the entire business of Tencent Holding Ltd was $42.9 billion at $23.07 per share. The market price to date was $35.10 per share.

Benjamin Graham’s Stock Test    

Net Current Asset Value (NCAV) Approach     

Graham developed and tested the net current asset value (NCAV) approach between 1930 and 1932. Graham reported that the average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20 percent. An outside study showed that from 1970 to 1983, an investor could have earned an average return of 29.4 percent by purchasing stocks that fulfilled Graham’s requirement and holding them for one year.

Net Current Asset Value (NCAV) Method  

Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly.

Graham was looking for firms trading so cheap that there was little danger of falling further.  His strategy calls for selling when a firm’s share price trades up to its net current asset value. The reason for this according to Graham is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66percent of net current asset value.

Tencent MC NCAV

Explanation

The net current asset value approach of Benjamin Graham indicates that the stock price was overvalued from 2007 to 2012. Because the market value was greater than the 66 percent ratio. The 66 percent ratio represents only 18 percent of the market value. Thus, the stock was trading above the liquidation value of Tencent Holdings Inc.

It tells us that the stock of Tencent did not pass the stock test of Benjamin Graham because the price was expensive.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation  

By calculating market capitalization over the net current asset value of the company, we will know if the stocks are trading over or undervalued. The result should be less than 1.2 ratios. Graham would only buy if the ratio does not exceed 1.2 ratios.

Formula: Market Capitalization / NCAV = Result (must be lesser than 1.2)    

Let’s go over with the result from the table below:

Tencent NCAVPS

The MC/NCAV valuation tells us that the stock price of Tencent was overvalued from 2007 to 2012. Because it exceeded the 1.2 ratios. It did not pass the stock test of Graham because the stock was expensive. 

Benjamin Graham’s Margin of Safety (MOS)     

The margin of Safety requires knowing when the buying price is low in absolute terms, rather than merely relative to the market as a whole. This formula is used to identify the difference between company value and price.Graham called it the intrinsic value.

This is the concept taught by Benjamin Graham and still referred to by Warren Buffett. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. Because enterprise value takes into account the balance sheet and a much more accurate measure of the company’s true value compared to market capitalization,

To arrive at the results below for Tencent Holdings Ltd, we used the formula Margin of Safety = Enterprise Value – Intrinsic Value.

Tencent MOS

Explanation

Benjamin Graham’s margin of safety indicates a 96 percent average for Tencent Holdings Ltd. The margin of safety was at $282 average. The enterprise value was average $10 representing only 3 percent of the intrinsic value, while on the other hand, the intrinsic value was average $292 representing 3041 percent of the enterprise value.

Intrinsic Value

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate)   

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share; G as the company’s long-  term (five years) sustainable growth estimate; 9 is the constant that represents the appropriate P-E ratio for a no-growth company; and 2 for the average yield of high-grade corporate bonds.

Tencent IV

Explanation

What factors intrinsic value? In our calculation, using the formula of Benjamin Graham for intrinsic value, the earning per share and the growth plays an important role in the calculations. The earning per share was $3 average, while the sustainable growth rate was 39 average. On the other hand, the annual growth rate was 86 average.

Earnings per Share (EPS)

The formula for earning per share was:

          EPS

Sustainable growth rate (SGR), on the other hand, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its blowback ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable Growth Rate

Sustainable growth rate = ROE x (1 – dividend-payout ratio)
Tencent SGR

The table above shows that the return on equity was average 42 percent while the payout ratio was 8 percent average.

Let’s move on with Return on Equity or ROE. This is used as an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. In other words, the return on equity shows how many dollars of earnings result from each dollar of equity. The formula for the return on equity was:

 ROE

Relative and Average Approach

The summary of the two approaches is in the table below.

Tencent Relative

Let us walk farther and see how is the real value of the stock of Tencent Holdings Ltd and the market price of the stock significant in the margin of safety.

  Tencent Graph

Explanation

The intrinsic value line soared up very high at a rate of 2969 percent average from 2007 to the trailing twelve months 2012. This is the true value of the stock of Tencent Holdings Ltd. This means that the true value of the stock is soaring high, but in the trailing twelve months of 2012, it falls down at -9 percent. The price was stable at an average of $10, trending at 13 percent average.  The graph shows a 96 percent average margin of safety from 2007. Overall, this is what Benjamin Graham meant, when he said, purchasing at a discount to its underlying intrinsic value.

IV is the true value of the stock and EV is the market price and the difference between the two lines is what we called the margin of safety.

Tencent Relative Valuation Methods       

The main purpose of these relative valuation methods for valuing a stock is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock. 

Price to Earnings/Earning Per Share (P/E*EPS)  

This valuation will determine the status of the stock price. Stocks may be undervalued or overvalued.  One way to do this is by simply multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.

Tencent PE EPS

Explanation

The P/E*EPS valuation shows that the price was undervalued from 2007 to the trailing twelve months 2012. The enterprise value represents only 8 percent of the P/E*EPS ratio, therefore, the price was cheap.

The price was undervalued because the stock price was lesser than the result of the P/E*EPS ratio. Another way of calculating this valuation is by using the average price to earnings ratio.

Tencent Relative PE

Price to earnings ratio using the average approach has greater results because it takes into consideration the past performance of the company, in which the P/E ratio for 2006 was 5000 percent. 

The Enterprise Value (EV)/Earning Per Share (EPS) or (EV/EPS)    

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS). The result represents the price (P/E) and the difference represents the earnings (EPS).  If the analysts think that the appropriate ratio is greater or lower than the result.

  Tencent EV EPS

Explanation

The EV/EPS valuation indicates that the price (P/E) that was separated represents 36 percent average. While the earnings (EPS) a were 64 percent average. This might indicate that the price was cheap because the price represents only one-third of the enterprise value.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)        

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.

Tencent EV EBITDA

Explanation

The EV/EBITDA valuation tells us that it will take three years to cover the cost of buying the entire business. In other words, it will take three times the cash earnings to cover the cost of the purchase price. This valuation also shows the profitability wherein, it has a 74 percent average gross profit margin. Likewise, its net margin was 38 percent average.

Conclusion: 

In the Discounted Cash Flow spreadsheet, the capital rate that was used was 15 percent.  The present value of equity per share was $26.35 at the rate of 33.07 percent. While the future value was $96.94 per share discounted today at present value. Taking the amount of $96.94 today, you will be able to reinvest at the same 33.07 percent for the same equal 6 time period. Also, end up getting a higher amount. Moreover, the future value of equity was $312.9 billion at a future price of $168.25 per share. While the present value of Tencent was $135 billion at $72.74 per share. In addition, the projected income at year 5 was $32.05 per share discounted at present value.

Enterprise Value

The enterprise value valuation, total debt represents 6 percent and the cash and cash equivalent represent 78 percent. Thus the enterprise value was lesser by 72 percent against the market value. Buying the entire business to date, December 26, 2012, will cost $37.5 billion at 20.16 per share.

Net Current Asset

The net current asset value approach of Benjamin Graham indicates that the stock price of Tencent was overvalued. For the reason, the stock was trading above the liquidation value of the company. MC/NCAV valuation, on the other hand, shows that the stock price was expensive because the ratio exceeded the 1.2 ratios. Further, the margin of safety for Tencent Holdings Ltd was 96 percent average. While the intrinsic value was $292 average. In addition, the sustainable growth rate was $39 and ROE was $42 average.

Relative Valuation

Taking consideration of the relative valuation, it shows that the stock price was undervalued. Because the price (P/E) represents 36 percent. While the earnings (EPS) was 64 percent average in the EV/EPS valuation.  Moreover, the P/E EPS valuation shows that the price was undervalued because the price represents only 8 percent average.

EV/EBITDA

Furthermore, the EV/EBITDA valuation tells us that it will take 3 years to cover the costs of buying the business. In other words, it will take 3 times the earnings of the company to cover the costs of buying. The gross and net margins were 74 and 38 percent average.

Overall, the stock price was cheap and the margin of safety was 96 percent average. Moreover, the company has an impressive gross and net margins at 74 and 38 percent, respectively. Moreover, the return on equity was 42 percent average. Therefore I recommend a BUY in the stock of Tencent Holdings Ltd.

Research and written by Cris

This investment valuation is a bit different from our previous report.

BHP Billiton plc

What’s Up with BHP Billiton Plc (ADR) BBL

February 14th, 2013 Posted by Investment Valuation No Comment yet

BHP, formerly known as BHP Billiton Plc (ADR), is the trading entity of BHP Group Limited and BHP Group plc, Anglo-Australian multinational mining, metals, and petroleum dual-listed public company headquartered in Melbourne, Victoria, Australia. From Wikipedia

BHP Value Investing Approach   

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount. In other words, the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

BHP Investment in Enterprise Value  

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash. 

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)
BBL EV
The market capitalization was erratic in movement. Total debt was 9.5 percent, while cash and cash equivalent were 4 percent of the enterprise value, thus enterprise value was 5.5 percent over against the market capitalization. Buying the entire business of BHP is paying 5.5 percent of its total debt and 94.5 percent of its equity. The cash per share was $2.88 average.

The purchase price to date, February 11, 2013, would be $202 billion at $75.54 per share.  The market price to date was $68.08 per share.

Stock Test by Benjamin Graham

Net Current Asset Value (NCAV) Method

Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly.

The reason for this is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

Primarily, the concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value. 

BBL NCAVPS

Explanation

The net current asset value approach tells us that the stock of BBL was trading at an overvalued price from 2008 to the trailing twelve months. The 66 percent ratio represents only 2 percent of the market value per share. The net current asset value was negative during 2012 and the trailing twelve months.

It shows that the stock of BHP did not pass the stock test because the price was expensive and was trading above the liquidation value of the company.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation    

By calculating market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios.

Formula: Market Capitalization / NCAV = Result (must be lesser than 1.2)  

BBL MC NCAV

The MC/NCAV valuation shows that the stock of BHP was trading at an overvalued price from 2008 to the trailing twelve months because the ratio was more than 1.2 ratios.

The margin of Safety (MOS)  

 In my calculation, I used the enterprise value because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

BBL MOS

Explanation

The margin of safety for BHP was 63 percent average which is equivalent to $246. The enterprise value was 21 percent of the intrinsic value.  There was the margin of safety from 2008 to the trailing twelve months except in 2009 where there was zero margin of safety.  The formula for intrinsic value was:

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)    

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share; G as the company’s long-term (five years) sustainable growth estimate;  9 is the constant that represents the appropriate P-E ratio for a no-growth company as proposed, and 2 for the average yield of high-grade corporate bonds.

BBL IV

Explanation

BHP Billiton plc (ADR) marked an intrinsic value averaging to $306, decreased by 93 percent in 2009 and went up by 530 percent the following year. While the sustainable growth rate was 20.69 percent and the annual growth rate was 50.38 percent average. The earning per share was $5.39 average.

The formula for earning per share was:

    EPS

Sustainable Growth Rate (SGR)

Sustainable growth rate (SGR), on the other hand, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. Sustainable growth rate = ROE x (1 – dividend payout ratio)

BBL SGR

Explanation

The average return on equity was 31 percent from 2008 for BHP, while the payout ratio was 38.68 percent average. ROE was low at 15.01 percent during 2009 but the payout ratio was high at 77.8 percent.

Moving forward, Return on Equity (ROE) is an indicator of company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. For us to calculate for ROE, we would use this formula:

      ROE

Return on Equity also shows how many dollars of earnings result from each dollar of equity.

Relative and Average Approach

BBL Relative

Relative and Average approach produced almost the same results. For the return on equity, the average result is greater by 2 percent because it took into account the previous period’s performance.

BBL Graph

Explanation

As we can see, the line of intrinsic value in 2009 slope downward by 93 percent from 2008, then it dropped down below zero, for margin of safety. Then it slowly rose up by 530 percent the following period of 2010, until it reached its peak of $684 at 228 percent trend, then sloping downward again in 2012 at -66 percent. What does this mean?

The intrinsic value is the true value of the stocks of BHP. The line shows how the true value of the stock trends in the market. On the other hand, the enterprise value is the market value of the stock. I have used the enterprise value rather than the market value because, in my own discretion, it is more accurate to use because it factors the total debt and cash of the company, in which buying the whole company, you have to acquire also its debt and pocket the cash. Enterprise value was stable below $100.

The margin of safety is the space between the two lines. If we have to calculate the margin of safety we get the difference between the enterprise value and the intrinsic value.  For BHP, the average margin of safety from 2008 was 63 percent.

Price to Earnings/Earning Per Share (P/E*EPS)      

This valuation will determine whether the stock is undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share. From there, we can determine the status of the stock price.

BBL PE EPS

Explanation

The relative valuation for P/E*EPS shows an overvalued price from 2008 except in 2011. The stock was trading at an overvalued price because the price was greater than the P/E*EPS ratio.

The enterprise value was 116 percent of the P/E*EPS ratio, therefore, overall, the stock price was overvalued by 16 percent, thus the price was considered expensive.

In my computation above I have used the relative approach in the P/E*EPS ratio. There is another way of computing this valuation and that is the average approach. In the relative approach, we consider the prior year performance of the company and that is the 2007 performance in the price to earnings ratio. In the table below, you will find out the difference between doing these two approaches.

BBL Relative PE

The table shows that using the average approach produced a higher result of P/E*EPS ratio.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS) 

The use of this ratio is to separate price and earnings in the enterprise value dividing the enterprise value of projected earnings (EPS).  The result represents the price (P/E) and the difference represents the earnings (EPS).

BBL EV EPS

The relative valuation for EV/EPS tells us that the price (P/E) was 23 percent average from 2008. While the remaining 77 percent represents the earnings (EPS). But as mentioned, this valuation depends on the analyst’s own discretion.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).   

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

BBL EV EBITDA

Explanation

The EV/EBITDA tells us that it will take 7 years to wait to cover the costs of buying the entire business of BHP.  In other words, it tells us that it will take 7 times of the cash earnings of BBL to completely cover the costs of purchasing the entire business of the company. This valuation shows the cash earnings of the company in relation to the enterprise value or market value. The EBITDA represents 15 percent of the enterprise value.

The EV/EBITDA shows the profitability of the company with regards to its cash earnings compared to the market price. It shows how long will the buyer is willing to wait to cover the costs of buying the entire business.

In conclusion,

The market capitalization of BHP is trending erratic. The total debt represents 9.5 percent of the enterprise value, while cash and cash equivalent represent 4 percent, thus buying the entire business would be paying 5.5 percent of total debt and 94.5 percent of equity. The total cash per share was $2.88 average.

The purchase price to date, February 11, 2013, would be $202 billion at $75.54 per share. The market price to date was $68.08 per share.

Net Current Asset Value

On the other hand, the net current asset value approach shows an overvalued price from 2008 to the trailing twelve months. Since the stock was trading above the liquidation value of the company.  While the MC/NCAV approach shows an overvalued price since the ratio exceeded the 1.2 ratios. 

Further, the margin of safety tells us that the average margin of safety was 63 percent. Looking at the growth of the company, it shows that the sustainable growth rate of BBL was 20.69 percent average, and the annual growth rate was 50.78 percent average.  While the return on equity shows a 30.71 percent average from 2008.  The intrinsic value was $306 average.

P/E*EPS Valuation

Furthermore, the price was overvalued. Since the average price was 116 percent against the P/E*EPS ratio. This price is overvalued by a 16 percent average. While the EV/EPS shows that the price (P/E) was 23 percent and the earnings (EPS) was 77 percent average. Although the result of this valuation depends upon the analyst’s own discretion.

EV/EBITDA Valuation

The EV/EBITDA valuation tells us that it will take 7 years to cover the cost of buying the entire business. In other words, it will take 7 years for the cash earnings to cover the purchase price for the entire company. The EBITDA represents 15 percent of the enterprise value.

There was a margin of safety of an average 63 percent, it tells us that there is safety in buying. In addition, BHP has a fair return on equity of 30.71 percent average. Moreover, a fair net margin of 23 percent average. Therefore, I recommend a BUY in the stock of BHP Billiton plc ADR.

A note to the reader: These calculations were made on February 11, 2013. These ratios and recommendations are good only until there are changes in the market price. Thank you for reading.

Research and Written by Cris
Interested to learn more about the company? Here’s investment guide for a quick view, company research to know more of its background and history; and value investing guide for the financial status.
Vale SA

Vale S.A. (VALE) Investment Valuation

January 23rd, 2013 Posted by Investment Valuation No Comment yet
Vale S.A. (VALE) is a Brazilian multinational corporation engaged in metals and mining. It one of the largest logistics operators in Brazil. Formerly Companhia Vale do Rio Doce is the largest producer of iron ore and nickel in the world.
Value Investing Approach on VALE
This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Further, Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

VALE Investment in Enterprise Value   

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

VALE EV

Explanation

The market capitalization was erratic in movement with an average of $137 billion.  Its total debt represents 18 percent average. While its cash and cash equivalent represent 5 percent. Thus, enterprise value was greater by 13 percent against the market capitalization. Buying the entire business of Vale would be paying 13 percent debt and 87 percent equity.

Further, the purchase price of Vale to date, January 21, 2013, would be $180.6 billion at $56.96 per share.  The market price to date was $20.01 per share.

Benjamin Graham’s Stock Test           

Net Current Asset Value (NCAV) Approach  

The Net Current Asset Value (NCAV) is a method from Benjamin Graham to identify whether the stock is trading below the company’s net current asset value per share Specifically two-thirds or 66 percent of net current asset value. In other words, they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying.

Net Current Asset Value (NCAV) Method   

VALE NCAVPS

The net current asset value approach of Benjamin Graham shows that the stock was trading at an overvalued price. Because the market price was greater than the 66 percent ratio from 2007 to the trailing twelve months.  The 66 percent ratio represents only 7 percent of the market price, thus the market price was overvalued.

What does it mean? It tells us that the stock of Vale was expensive and did not pass the stock test of Benjamin Graham.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation  

Calculating market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios for Graham to buy stocks.

Market Capitalization / NCAV = Result (must be lesser than 1.2)
VALE MC NCAV

The MC/NCAV valuation tells us that the stock price of Vale was overvalued from 2007 to the trailing twelve months because the ratio exceeded 1.2. The result of ratios was 24.55 against 1.2 ratios, thus the price was considered very expensive. From here, we can say that it did not pass the stock test of Benjamin Graham.

Benjamin Graham’s Margin of Safety (MOS)   

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.

Margin of Safety = Enterprise Value – Intrinsic Value

VALE MOS

Explanation

The margin of safety for VALE resulted at a 67 percent average which is equivalent to $166 average. Enterprise value was $46 average. As seen in the table above, there was a margin of safety from 2007 to the trailing twelve months except in 2009, where there were zero margins of safety.

VALE IV

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)

Wherein;

EPS is the company’s last 12-month earnings per share.  G: the company’s long-term (five years) sustainable growth estimate. 9 stands as the constant representing the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham proposed an 8.5, but we changed it to 9). And, 2 is the average yield of high-grade corporate bonds.

By looking at the table, intrinsic value result was $207 average. This is the true value of VALE’s stock. The formula factors the earning per share and the sustainable growth rate. The earning per share was $2.93 average while the sustainable growth rate was $28.56 average.

Earnings per Share (EPS)

EPS

Sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable Growth Rate (SGR)

The formula is Sustainable growth rate = ROE x (1 – dividend-payout ratio).
VALE SGR

The table above stated that the average return on equity was 31.55 percent. Payout ratio garnered 12.47 percent average.

Moving on, Return on Equity (ROE) is an indicator of company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. It shows how many dollars of earnings result from each dollar of equity.

  ROE

VALE Relative PE

As you can see, the relative approach in calculating Vale’s sustainable growth rate, produced almost the margin of safety compared to the average approach. The margin of Safety was greater when an average approach is a concern.

VALE Intrinsic Value Graph

VALE Graph

Explanation

In 2009, the revenue and net earnings of Vale went down by 38 and 60 percent, respectively. In 2010 period and the following year, its revenue and net earnings soared up to 94 and 229 percent, respectively. Moreover, in 2011 it soared up by 30 percent both in revenue and net earnings. Moreover, the margin of safety was high in 2011 at 89 percent. The average margin of safety was 67 percent using the relative approach.

VALE Relative Valuation Methods     

The relative valuation methods for valuing a stock is to compare market values with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS) 

This method will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

  VALE PE EPS

Explanation

The P/E*EPS tells us that the stocks were overvalued because the price was higher than the P/E*EPS ratio. Therefore, the stock price of Vale is expensive.

There are two approaches also in calculating the P/E*EPS valuation. It is the relative P/E approach and the average P/E approach. I have summarized the results of these two approaches in the table shown below.

VALE Relative

 

The Enterprise value (EV)/Earning per Share (EPS) or (EV/EPS)  

The use of this ratio is to separate price and earnings in the enterprise value by dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E). The difference will then represent the earnings (EPS).

VALE EV EPS

Explanation

In this EV/EPS valuation, the price (P/E) was 44 percent average.  Earnings (EPS) was 56 percent average. This is the price a certain investor would pay in buying.

But then again, this valuation depends on the analyst’s own discretion.

Enterprise Value (EV)/ Earnings before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)                 

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.
VALE EV EBITDA

Explanation

The EV/EBITDA valuation tells us that it will take 9 years to cover the costs of buying the entire business of Vale.  In other words, it will take 9 times the cash earnings to cover the purchase price. The net income of Vale was 33 percent average.

In conclusion: 

The market capitalization for Vale was erratic in movement with an average of $137 billion. Its total debt was 18 percent average. While the cash and cash equivalent were 5 percent average. Thus the enterprise value was greater by 13 percent against the market capitalization. Buying the entire business of Vale, the investor would be paying 13 percent of its debt and 87 percent of its equity. The purchase price to date, January 22, 2013, for the entire business, is $180.6 billion at $56.96 per share. The current market price was $20.02 per share.

Net Current Asset Value

The net current asset value approach shows that price was overvalued from the period 2007 to 2012.  This is because the market price was higher than the 66 percent ratio of net current asset value per share. The MV/NCAV shows that the price was overvalued because the results exceeded the 1.2 ratios. The net current asset value approach indicates that the price was expensive and did not pass the stock test of Benjamin Graham.

In addition, the margin of safety for Vale was 67 percent average and its intrinsic value was $207 average. While the growth represents 29 percent for sustainable growth rate. And 66 percent in the annual growth rate, while the return on equity was 31.55 percent average.

P/E*EPS

Furthermore, the stock price was overvalued because the P/E*EPS ratio was only 57 percent average against the market price. Therefore, the price was expensive overall. On the other hand, the EV/EPS indicates that the price (P/E) was 44 percent and the earnings (EPS) was 56 percent average.

EV/EBITDA

It will take 9 years to cover the costs of buying the entire business of Vale.  In other words, it will take 9 times the cash earnings to cover the purchase price.

Therefore, recommends a HOLD in the stock of Vale SA (ADR).

Researched and Written by Cris

Vale SA

Vale SA ADR (VALE) Investment Valuation

January 23rd, 2013 Posted by Investment Valuation No Comment yet
VALE is a Brazilian multinational corporation engaged in metals and mining and the largest producer of iron ore and nickel in the world.
VALE Investing Approach  
This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

VALE Investment in Enterprise Value   

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

 VALE EV

Explanation

The market capitalization was erratic in movement with an average of $137 billion.  Its total debt represents 18 percent average, while its cash and cash equivalent represent 5 percent. Thus, enterprise value was greater by 13 percent against the market capitalization. Buying the entire business of Vale would be paying 13 percent debt and 87 percent equity.

If you are asking how much it would cost you to buy the entire business, then the purchase price of Vale to date, January 21, 2013, would be $180.6 billion at $56.96 per share.  The market price to date was$20.01 per share.

Benjamin Graham’s Stock Test           

Net Current Asset Value (NCAV) Approach  

The Net Current Asset Value (NCAV) is a method from Benjamin Graham to identify whether the stock is trading below the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value. Meaning they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying.

Net Current Asset Value (NCAV) Method   

VALE NCAVPS

The net current asset value approach of Benjamin Graham shows that the stock of Vale was trading at an overvalued price because the market price was greater than the 66 percent ratio from 2007 to the trailing twelve months.  The 66 percent ratio represents only 7 percent of the market price, thus the market price was overvalued.

What does it mean? It tells us that the stock of Vale was expensive and did not pass the stock test of Benjamin Graham.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation  

Calculating market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios for Graham to buy stocks.

Market Capitalization / NCAV = Result (must be lesser than 1.2)
VALE MC NCAV

The MC/NCAV valuation tells us that the stock price of Vale was overvalued from 2007 to the trailing twelve months because the ratio exceeded 1.2. The result of ratios was 24.55 against 1.2 ratios, thus the price was considered very expensive. From here, we can say that it did not pass the stock test of Benjamin Graham.

Benjamin Graham’s Margin of Safety (MOS)   

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.

Margin of Safety = Enterprise Value – Intrinsic Value

VALE MOS

Explanation

The margin of safety for VALE resulted at a 67 percent average which is equivalent to $166 average. Enterprise value was $46 average. As seen in the table above, there was a margin of safety from 2007 to the trailing twelve months except in 2009, where there were zero margins of safety.

VALE IV

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)

wherein;

EPS is the company’s last 12-month earnings per share.  G: the company’s long-term (five years) sustainable growth estimate. 9 stands as the constant representing the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham proposed an 8.5, but we changed it to 9). And, 2 is the average yield of high-grade corporate bonds.

By looking at the table, intrinsic value result was $207 average. This is the true value of VALE’s stock. The formula factors the earning per share and the sustainable growth rate. The earning per share was $2.93 average while the sustainable growth rate was $28.56 average.

Earning per Share (EPS)

The term earnings per share (EPS) represents the portion of a company’s earnings, net of taxes and preferred stock dividends, that is allocated to each share of common stock.

   EPS

Sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable Growth Rate (SGR)

The formula is Sustainable growth rate = ROE x (1 – dividend-payout ratio).
VALE SGR

The table above stated that the average return on equity was 31.55 percent. Payout ratio garnered 12.47 percent average.

Moving on, Return on Equity (ROE) is an indicator of company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. It shows how many dollars of earnings result from each dollar of equity. 

  ROE

VALE Relative PE

As you can see, the relative approach in calculating Vale’s sustainable growth rate, produced almost the margin of safety compared to the average approach. The margin of Safety was greater when an average approach is a concern.

VALE Intrinsic Value Graph

VALE Graph

During 2009, the revenue and net earnings of Vale went down by 38 and 60 percent, respectively. During the 2010 period and the following year, its revenue and net earnings soared up to 94 and 229 percent, respectively. Then, in 2011 it soared up by 30 percent both in revenue and net earnings. The margin of safety was high in 2011 at 89 percent. For Vale, the average margin of safety was 67 percent using the relative approach.

VALE Relative Valuation Methods     

The relative valuation methods for valuing a stock is to compare market values with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS) 

This method will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

  VALE PE EPS

Explanation

The enterprise value per share was lesser than the P/E*EPS ratio by 71 percent. It was overvalued for the rest of the periods because the price was higher than the P/E*EPS ratio. The market price was 175 percent of the P/E*EPS ratio, therefore, the stock price is considered expensive.

There are two approaches also in calculating the P/E*EPS valuation. It is the relative P/E approach and the average P/E approach. I have summarized the results of these two approaches in the table shown below.

VALE Relative

 

The Enterprise value (EV)/Earning per Share (EPS) or (EV/EPS)  

The use of this ratio is to separate price and earnings in the enterprise value by dividing the enterprise value of projected earnings (EPS), the result represents the price (P/E). The difference will then represent the earnings (EPS).

VALE EV EPS

Explanation

The price (P/E) was 44 percent average and the Earnings (EPS) was 56 percent average. This is the price a certain investor would pay in buying.

Enterprise Value (EV)/ Earnings before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)                 

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.
VALE EV EBITDA

Explanation

The EV/EBITDA tells us that it will take 9 years to cover the costs of buying the entire business of Vale.  In other words, it will take 9 times the cash earnings to cover the purchase price. This valuation shows the profitability of the company. The net income of Vale was 33 percent average.

In conclusion: 

The market capitalization for Vale was erratic in movement with an average of $137 billion. Its total debt was 18 percent average. While the cash and cash equivalent were 5 percent average, thus the enterprise value was greater by 13 percent. Buying the entire business the investor would be paying 13 percent of its debt and 87 percent of its equity. The purchase price to date, January 22, 2013, for the entire business, is $180.6 billion at $56.96 per share. The current market price was $20.02 per share.

Net Current Asset Value (NCAV)

The stock price was overvalued from the period 2007 to 2012 because it exceeded the 1.2 ratios.  The NCVA approach indicates that the price was expensive and did not pass the stock test of Benjamin Graham.

In addition, the margin of safety for Vale was 67 percent average and its intrinsic value was $207 average. While the growth represents 29 percent for sustainable growth rate. And 66 percent in the annual growth rate. While the return on equity was 31.55 percent average.

P/E*EPS

Furthermore, the P/E*EPS indicate that the stock price was overvalued because the P/E*EPS ratio was only 57 percent market price. Therefore, the price was expensive overall. On the other hand, the EV/EPS valuation indicates that the price (P/E) was 44 percent. Moreover, the earnings (EPS) was 56 percent average.

EV/EBITDA

EV/EBITDA valuation tells us that it will take 9 years to cover the costs of buying the business of Vale.  In other words, it will take 9 times of the cash earnings of Vale to cover the purchase price.

Further, I recommend a HOLD in the stock of Vale SA (ADR).

Researched and Written by Criselda

AstraZeneca PLC (AZN) Investment Valuation

January 18th, 2013 Posted by Investment Valuation No Comment yet
AstraZeneca PLC (AZN) Investment Valuation. This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

AZN Investment in Enterprise Value  

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

AZN EV

Explanation

The market capitalization of AZN was stable at an average of $62.8 billion. The total debt represented 15.3 percent, while cash and cash equivalent were 15.5 percent. Therefore, the total debt was offset by cash and cash equivalent, since this valuation factors the balance sheet account. Digging into results, if an investor decided to buy the entire business of AZN, he/she will be paying 100 percent of its equity.

The purchase price of AstraZeneca plc (ADR) to date, January 16, 2013, would be $59.3 billion at $46.26 per share. The market price to date was $59.08 per share.

The Net Current Asset Value (NCAV) Method  

The Net Current Asset Value (NCAV) is a method from Benjamin Graham to identify whether the stock is trading below the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value. Meaning they are essentially trading below the company’s liquidation value and therefore, the stocks is trading in a bargain, and it is worth buying.

AZN NCAVPS

Explanation

The net current asset value approach tells us that AZN’s stock price was overvalued from 2007 to the trailing twelve months because the market price was greater than the 66 percent ratio. The 66 percent ratio represents only 6 percent of the market price average, therefore the price was overvalued.

What does it mean? It indicates that the stock of AZN traded above the liquidation value of the company.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation    

By calculating market capitalization over the net current asset value of the company, we can determine if the stock is trading over or undervalued.

AZN MC NCAV

For AZN, the result of MC/NCAV valuation shows that the stock was at an overvalued price because the ratio of MC/NCAV exceeded the 1.2 ratios, therefore the price was expensive.

 The margin of Safety (MOS)    

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.
AZN MOS

Explanation

The table shows that the margin of safety was 81 percent average. There was the margin of safety from 2007 to the trailing twelve months. The enterprise value represents only 17 percent of the intrinsic value, therefore the intrinsic value was over 600 percent of the enterprise value.

Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable  Growth Rate)

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share; G is the company’s long-term (five years) sustainable growth estimate; 9 as the constant representing the appropriate P-E ratio for a no-growth company as proposed; and 2 for the average yield of high-grade corporate bonds.
AZN IV

Explanation

The earning per share was average 5, while the sustainable growth rate was average 21. The annual growth rate was 51 average. On the other hand, the intrinsic value was $267 average.

The earnings per share (EPS) and the sustainable growth rate (SGR) factor intrinsic value.

Earnings per Share (EPS)

  EPS

Sustainable growth rate (SGR), on the other hand, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate you need to know the return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio.

Sustainable-growth rate = ROE x (1 – dividend-payout ratio)

AZN SGR 

Explanation

Return on Equity (ROE) is an indicator of company’s profitability by measuring how much profit the company generates with the money invested by common stock owners.

  ROE

Return on Equity shows how many dollars of earnings result from each dollar of equity.  According to Cris, there are two approaches to calculating the sustainable growth rate. These are the relative ratio approach and the average ratio approach. I have summarized the difference between these two approaches in the table given below:

AZN Relative

Explanation

It shows that the average approach shows a greater result than by applying the relative approach. The margin of safety was greater by 1 percent, so as with the growth and the return on equity.

I want you to understand more clearly the relationship between the price and the intrinsic value in getting the margin of safety.  Please follow me, I will explain to you what does the graph mean. 

AZN Graph

Explanation

The intrinsic value (IV) is the true value of the stock and the EV line is the market price. The stock of AZN is trading below the true value of the stock or in other words, the stock price of AZN is cheap.

Further, the space between the two lines is the margin of safety. The margin of safety is the difference between the enterprise value and the intrinsic value.  So, if we get the difference, the average would be 81 percent. This is the average margin of safety for AZN. The requirement of Benjamin Graham in buying the stock is at least 40-50 percent margin of safety, so this means, the stock of AZN is cheap and is a candidate for buying.

Price to Earnings/Earning Per Share (P/E*EPS)

This approach will help us determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share. This will give us an idea about the status of the stock price.

   AZN PE EPS

The P/E*EPS valuation above shows that the stock was trading overvalued in 2007 and 2008. While during 2009 to the trailing twelve months, the stock was trading at an undervalued price. Because the price was lesser than the P/E*EPS ratio. Overall, the stock price is considered undervalued.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS) 

The use of this ratio is to separate price and earnings in the enterprise value by dividing the enterprise value of projected earnings (EPS). The result represents the price (P/E) and the difference represents the earnings (EPS).

AZN EV EPS

Explanation

The EV/EPS valuation, tells us how much is the price and the earnings in the enterprise value. It shows that the average price (P/E) was 20 percent and the earnings (EPS) was 80 percent average.

However, what important here is it separate the P/E and the EPS from the price. This is the price that the investor is willing to pay.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)          

This metric is used in estimating business valuation.  This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.
AZN EV EBITDA 

The EV/EBITDA tells us that it will take 5 years to cover the costs of buying the entire business. In other words, it will take 5 times the cash earnings of the company to cover the purchase price.

This valuation also indicates the profitability of the company considering the cash earnings of the company. Exclusive of the non-cash expenses against the market price, net of total debt and cash and cash equivalent. The average net margin of AZN is 23 percent.

In conclusion: 

The market capitalization of AstraZeneca plc (ADR) was stable at $62.8 billion average. The total debt represents 15.3 percent. An investor would be buying 100 percent equity in buying the entire business. The purchase price of the entire business to date, January 16, 2013, is $59.3 billion at $46.26 per share. While the market price to date was $59.08 per share.

The net current asset value approach tells us that the stock was overvalued and expensive. Because the ratio was greater than the 1.2 ratios. Therefore the stock of AZN was expensive.

The margin of Safety (MOS)

On the other hand, the margin of safety was 81 percent average. There was a margin of safety from 2007 to the trailing twelve months.  The intrinsic value was $267 average and the earning per share was 5 average. On the other hand, the sustainable growth rate was 21 average. While the annual growth rate was 51 average.

Moreover, in the EV/EPS valuation, it shows that the price (P/E) 20 percent. Moreover, the earnings (EPS) was 80 percent average.

Furthermore, the EV/EBITDA valuation shows that it will take 5 years to cover the cost of buying AZN.  In other words, it will take 5 times the cash earnings to cover the purchase price. The net margins of the company were 23 percent average.

There is a margin of safety at 81 percent in buying the stock of  AZN. Therefore, I recommend a Buy in the stock of AstraZeneca plc (ADR).

Research and Written by Cris

Interested to learn more about the company? Here’s investment guide for a quick view, company research to know more of its background and history; and value investing guide for the financial status.

Facebook Inc

Facebook Inc (FB) Investment Valuation

December 28th, 2012 Posted by Investment Valuation No Comment yet

Facebook Inc (FB) was founded in 2004 by Mark Zuckerberg. Headquartered in 1 Hacker Way, Menlo Park, California 94025. FB had 1.52 billion daily average users as of December 2018.

Facebook Value Investing Approach 

The method of valuation approach for Facebook Inc was based on Discounted Model.  The historical data were gathered and then I came up with the forecast financial data and ratios to come up with the net present value of the  6th year period. Net present value is one way to decide if an investment is worthwhile by looking at the projected cash inflows and outflows.  Cash inflows are the expected cash that the company can be generated for the period. Cash outflows are the expenditures to be incurred from generating cash inflows.

Discounted Model

This model will show us how to calculate the value. I will walk you through every step of the calculation. The table below shows the historical value of Facebook Inc.  The formula is:

FB Value Vo

Where:

  • Vo is the value of the equity of a business today.
  • CF1 to CFn represents the expected cash flows (or benefits) to be derived for periods 1 to n.  The discounted cash flow model is based on time periods of time of equal length.  Because forecasts are often made on an annual basis in practice, we use the terms “periods” and “years” almost interchangeably for purposes of this theoretical discussion.
  • r is the discount rate that converts future dollars of CF into present dollars of value.

The equation above is the basic discounted cash flow (DCF) model. 

Discounted Model without Terminal Value

FB Discounted Model

The data show the historical data of income and expense for Facebook Inc from 2007 to 2012.  The net income is cash inflows.  The present value was also calculated by net income over 1 plus capital rate to the power of n.

FB Buffett Model

The table above will show us the historical equity of Facebook Inc as well as the return on equity. The return on equity was calculated by net income over equity.  The average return on equity was $0.17 for every dollar of earnings.  The average ROE was 0.17. On the other hand, the earnings per share were calculated by net income over the number of outstanding shares for every period. Since Facebook Inc was new in IPO, the only available market price were 2011 and in 2012, therefore price to earnings was calculated only in 2011 and in 2012, which is seen above at $38 and $27.07 per share. Therefore, the price to earnings was calculated at market price over earning per share. I have used forward price to earnings ratio of 48.

Income on the sixth year

FB PV

In the table shown above, we want to get the income for the 6th year as well as the present value of net income.  On the other hand, the value of Facebook Inc of the 6th year was also calculated.  How did I do that? First, I have to calculate the net income in the 6th year. The calculation of net income at year N was, the last projected equity multiplied by the average return on equity and we get the projected net income at $5.8 billion.

The projected equity from 2007 to 2017 was also calculated simply by multiplying the projected equity per share to the number of shares outstanding from 2013 to 2017. Moreover, the present value of net income was $2.5 billion calculated as net income on year N over 1 + capital rate on the power of 6. While the value of the entire business of Facebook Inc at the 6th time periods was $ 121 billion discounted today. The value of Facebook at $121 was calculated by net income multiplied by the multiplier of 48. From here, we get the value of the 6th year discounted today at present date.

Equity and Earnings Model

This spreadsheet shows the historical equity, net earnings, and the retained earnings, as well as the projected for the five-year period. The return on investment can also be seen and the income growth for Facebook Inc.

FB Equity Earning Model

The data shows us the future equity and earnings per share for Year 1 to Year 5. The projected retained earnings were calculated as well as by adding earnings and deducting dividends to the equity. The average ratio was calculated as well.

The present value of equity per share was $5.61 at a rate of 17 percent, you would have $14.39 at the end of 6 time periods, which is the future value. In other words, a future value of $14.39 is equal to a present value of only $5.61.  This means, having a choice of taking an amount higher than $5.61 today and taking $14.39 at the end of the 6 year period, you would have been taken the money today.  By doing so, you will have a chance to invest the higher amount at 17 percent for the same 6 year period, which will give you at the end more than $14.39. The net income in Year 5 was $2.45 per share discounted today at the present time.

 

Benjamin Graham’s Intrinsic Value

One of the strategy by Benjamin Graham in investing is by using the intrinsic value. Graham created the formula for intrinsic value and used to value stocks. In the finance world, he is famous for his margin of safety. Most investors required a margin of safety which is the measure of risk equal to the amount by which stock price is below intrinsic value.

The formula for Intrinsic Value is:

Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable  Growth Rate)

The explanation in the calculation of intrinsic value is the following:
EPS or the company’s last 12-month earnings per share;  G is the company’s long-term (five years) sustainable growth estimate; 9 is the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham  (Graham  proposed an 8.5, but we changed it to 9); and 2 as the average yield of high-grade corporate bonds.

Intrinsic Value Table

FB IV

The earnings per share average were 0.15, while the growth which is the return on equity was 1.85 percent average. The average ratios of Facebook were not that impressive, because, during its first two years, 2007 and 2008, the company suffered losses as return on equity factors net income. Annual growth, on the side note, was $9.04 average. Moreover, the intrinsic value was $1.42 average. If I consider only the last three years, the average intrinsic value was $2.75.

FB IV Graph

Explanation

The graph above shows us how the true value of the stocks of Facebook Inc is moving. The intrinsic value was below the linear trend line in 2007 and 2008. For reason the intrinsic value was negative, meaning there was zero value of Facebook Inc’s during those periods. It started to soar in 2009 where the point of intersection was, until 2011 but falls down in 2012 at a rate of 57 percent. The net margins in 2012 dropped to 4 percent from 18 percent in 2011. The margin of safety is measured at 40-50 percent of the intrinsic value as the requirement of Graham in buying stocks. Buying at this level, you put an allowance to future unseen risks.

FB MOS

Since there was a zero margin of safety for Facebook Inc the stock price is greater than the true value of the stock. This also means that the stock of FB is trading at an overvalued price.

The Enterprise Value

FB EV

If you were internet savvy, you would’ve known that FB was new in IPO. As a result, the enterprise value was calculated for the period 2012. The enterprise value per share was $19.79. The cash and cash equivalent represent 20 percent of the enterprise value, thus the enterprise value was lesser by 20 percent against the market price. For investors who are buying the entire business of Facebook Inc to date, December 21, 2012, will cost you $51.7 billion at $19.79 per share.

Conclusion

The value of Facebook at the 6th time periods was $121 billion discounted today at the present time. The projected net income at year N was $5.8 billion and $2.5 billion valued at present. While, the average return on equity was 0.17 from 2010 to 2012 ratios, but the actual was 0.10 from 2007 to 2012 ratios. The reason is that Facebook Inc suffered losses in the first two periods. Thus, we include the last three year period only and the result was 0.17. The price to earnings ratio was $48.  I think the losses are on Facebook.

Moreover, the present value of equity per share was $5.61 at a rate of 17 percent, you would have $14.39 at the end of 6 time periods, which is the future value. In other words, a future value of $14.39 is equal to a present value of only $5.61.

The margin of Safety (MOS)

The margin of safety by Benjamin Graham, Facebook Inc has zero margins of safety in 2012. The intrinsic value was very low because the growth of Facebook deteriorates in 2012 and negative growth during the first two years; between 2007 and 2008.  The intrinsic value average was $1.42 from its 5 year period, in 2012 it was $1.73.

The enterprise value was $51,748 at $19.79 per share. Enterprise Value is the cost of buying the entire business to date, December 21, 2012. The market price to date was at $27.71 per share. Facebook has zero debt and its cash and cash equivalent represent 20 percent of the enterprise value. Thus the enterprise value was lesser by 20 percent against market value.

Facebook’s Potential

In addition, Facebook Inc has the potential of generating revenue out of its advertisements or real-time bidding value. According to one of FB’s partners in advertising, the company is generating almost 4 times the return on ad dollars than another real-time bidding system with its current Facebook Exchanged or FBX. Moreover, Facebook’s revenue from real-time bidding represents only 85 percent of the whole revenue from advertising. Plus other generating activities that Facebook can offer.  Also, the company had already reached it’s 1 billion milestones before this year ends surpassing the projection on FB.

Overview, Facebook has great potential in many areas and with its huge opportunity for advancement. Therefore, I recommend a BUY on the stock of Facebook Inc (FB) because of its huge potential.

Research and Written by Criselda

Twitter: criseldarome

Great Northern Iron Ore Properties

Great Northern Iron Ore Properties (GNI) Investment Valuation

December 20th, 2012 Posted by Investment Valuation No Comment yet

Great Northern Iron Ore Properties (GNI) was founded in 1906 and was headquartered in Saint Paul, Minnesota. This investment valuation on Great Northern Iron Ore Properties shows that the company has a very impressive gross margin and net margin.

GNI Value Investing Approach 

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham.

The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt.

The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

GNI Investment in Enterprise Value   

The whole concept of enterprise value is to calculate how much it would cost for an investor to purchase an entire business. Enterprise Value (EV) is the present value of the entire company.

  GNI EV

The total debt was zero percent in the last five years and its cash and cash equivalent were averaging 6 percent. As a result, the enterprise value was lesser by 5 percent against the market capitalization. If an investor buys the entire business of GNI, the investor will be paying for 100 percent equity with no debt.

The purchase price of the entire business of Great Northern Iron Ore Properties to date, December 10, 2012, will be $101 million at $50.50 per share. The market price to date was $73.30 per share.

Benjamin Graham’s Stock Test

Net Current Asset Value (NCAV) Method 

Benjamin Graham is looking for firms trading with an undervalued price. The reason according to Graham is when a stock trades below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value. So, therefore, the stock is considered a bargain, and it is worth buying. The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

  GNI NCAVPS

Explanation

The net current asset value approach of Benjamin Graham tells us that the stock price of GNI was overvalued from 2007 to the trailing twelve months because the market value was greater than the 66 percent ratio. The 66 percent ratio represents only 1.4 percent of the market value, therefore, the price was so expensive.

It shows that the stock of GNI was trading above the liquidation value from 2007 to the trailing twelve months of 2012 which brings us to the conclusion that it did not pass Benjamin Graham’s stock test.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation   

MC/NCAV is another stock test by Graham. The bottom line here is, if the result does not exceed the ratio of 1.2, then the stock passes the test for buying.

GNI MC NCAV

The MC/NCAV valuation shows that the stock price of Great Northern Iron Ore Properties was overvalued from 2007 up to trailing twelve months 2012 because the ratio exceeded the 1.2 ratios. It shows that the price was expensive and therefore, the stock did not pass the stock test of Benjamin Graham.

Benjamin Graham’s Margin of Safety (MOS)   

The margin of safety is used to identify the difference between company value and price. The difference between market value and the true value is called the intrinsic value.

Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. “In my calculation, I used the enterprise value because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

Let’s see what the table below would bring us about GNI’s margin of safety.

GNI MOS

Explanation

The average margin of safety was 53 percent or $227 average while the intrinsic value was $105 average. For 2007 and 2010, there was a zero margin of safety for GNI because the intrinsic value was below zero. The company’s growth during 2007 and 2010 was negative, thus resulted in negative intrinsic value.

The formula for intrinsic value is given below.

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)   

GNI IV

Explanation

The explanation in the calculation of intrinsic value is as follows:

EPS: the company’s last 12-month earnings per share; G: the company’s long-term (five years) sustainable growth estimate; 9: the constant represents the appropriate P-E ratio for a no-growth company(Graham  proposed an 8.5, but we changed it to 9); and 2: the average yield of high-grade corporate bonds.

The earning per share was averaging $11.98. In addition, the earnings per share (EPS) and the sustainable growth rate (SGR) factor intrinsic value.

Sustainable Growth Rate (SGR)

Sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. In calculating this, you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. The formula: Sustainable growth rate = ROE x (1 – dividend-payout ratio).

    GNI SGR

Explanation

The return on equity was 158 percent average while the payout ratio was 98 percent average. Return on equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. Return on Equity formula is:

 great northern iron ore properties-gni

Return on equity shows how many dollars of earnings result from each dollar of equity. There are two approaches in calculating the sustainable growth rate, these are the relative ratio approach and the average ratio approach.

Relative and Average Approaches

  great-northern-iron-ore-properties-gni

Results given in the table above shows that the margin of safety was greater by one percent in the average approach.

During 2007 and 2010, there was no margin of safety because the intrinsic value line was below the enterprise value line. There was a margin of safety because the IV line was on top of the EV line. The difference between the two lines is the margin of safety.

GNI Relative Valuation Methods     

Relative valuation methods’ core concept for valuing a stock, is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)

This valuation will help us determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share. This will answer our question as to “What’s the status of the stock price?”

   GNI PE EPS

The P/E*EPS valuation shows that the stock price of GNI was undervalued. The enterprise value represents 67 percent of the P/E*EPS ratio. Thus, the price was cheap as a result of this valuation.

Relative and Average Approaches

Another way of calculating this valuation is by using the average approach.  The table below will show us the difference between using the two approaches.

GNI Relative PE

By using the average approach, the price to earnings ratio was greater by $1 and the percentage of P/E*EPS ratio was greater by 27 percent.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)  

The use of EV/EPS ratio is to separate price and earnings in the enterprise value by dividing the enterprise value of projected earnings (EPS). The result represents the price (P/E) and the difference represents the earnings (EPS).

 GNI EV EPS

The EV/EPS valuation, tells us that the price (P/E) was 9 percent and the earnings (EPS) was a 91 percent average. This might indicate that the price was cheap because it represents only nearly one-tenth of the enterprise value per share.

GNI EV/EPS Graph

 great-northern-iron-ore-properties-gni

The price was high than the earnings from 2007 to the trailing twelve months of 2012.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)         

   GNI EV EBITDA

The result of EV/EBITDA valuations tells us that it will take 8 years to cover the costs of buying the entire business.  In other words,  it will take 8 times of GNI’s cash earnings to cover the purchase price. Eight years is a long period of waiting. EBITDA represents only 13 percent of the enterprise value.

The company’s gross margin was 98.98 percent average while its net margin was 83.68 percent average. A very impressive ratio.

In conclusion,

The market capitalization of Great Northern Iron Ore Properties was stable. The company has a zero debt and its cash and cash equivalent were a 5 percent average. Thus, the enterprise value was lesser of 5 percent of the market capitalization. The cost of buying the entire business to date, December 10, 2012, was $ 101 million at $50.50 per share.  The market price to date was $73.30 per share.

Net Current Asset Value

The net current asset value approach tells us that the stock price was overvalued from 2007 to 2012. It indicates that the stock was trading above the liquidation value of the company. Therefore, it did not pass the stock test of Benjamin Graham. On the other hand, the MC/NCAV valuation shows that the price was overvalued because the ratio exceeded the 1.2 ratios. Therefore the stock did not pass the stock test as well.

Further, the margin of safety by Benjamin Graham shows a 53 percent average margin of safety. The intrinsic value was averaging $105 in the last five years. While the earning per share was $11.98 and the return on equity was 158 percent average. And the payout ratio was 98 percent.

Relative Valuation

The price was undervalued and the enterprise value represents 67 percent of the P/E*EPS ratio. Therefore, the price was cheap. On the other hand, the price (P/E) was 9 percent and the earnings (EPS) was a 91 percent average.

EV/EBITDA

The EV/EBITDA indicates that it will take 8 years to cover the cost of buying the entire business. The gross margin of the company was a 98.98 percent average. While its net margins were 83.68 percent average, a very impressive ratio.

The margin of safety was averaging 53 percent therefore, the price was cheap. In addition, the gross margin and the net margin of GNI was very impressive. Therefore, I recommend a BUY on the stock of Great Northern Iron Ore Properties (GNI).

Research and written by Cris

Great Northern Iron Ore Properties

It is a Buy for Great Northern Iron Ore (GNI) Properties

December 20th, 2012 Posted by Investment Valuation No Comment yet

This investment valuation on Great Northern Iron Ore (GNI) Properties shows that the company has a very impressive gross margin and net margin.

Value Investing Approach on GNI

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham.

The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt.

The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

The Investment in Enterprise Value on GNI  

The whole concept of enterprise value is to calculate how much it would cost for an investor to purchase an entire business. Enterprise Value (EV) is the present value of the entire company.

 

The total debt was zero percent in the last five years and its cash and cash equivalent were averaging 6 percent. As a result, the enterprise value was lesser by 5 percent against the market capitalization. If an investor buys the entire business of GNI, the investor will be paying for 100 percent equity with no debt.

The purchase price of the entire business of Great Northern Iron Ore Properties to date, December 10, 2012, will be $101 million at $50.50 per share. The market price to date was $73.30 per share.

Benjamin Graham’s Stock Test

Net Current Asset Value (NCAV) Method 

Benjamin Graham is looking for firms trading with an undervalued price. The reason according to Graham is when a stock trades below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value. So, therefore, the stock is considered a bargain, and it is worth buying. The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

 

The net current asset value approach of Benjamin Graham tells us that the stock price of GNI was overvalued from 2007 to the trailing twelve months because the market value was greater than the 66 percent ratio. The 66 percent ratio represents only 1.4 percent of the market value, therefore, the price was so expensive.

It shows that the stock of GNI was trading above the liquidation value from 2007 to the trailing twelve months of 2012 which brings us to the conclusion that it did not pass Benjamin Graham’s stock test.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation   

MC/NCAV is another stock test by Graham. The bottom line here is, if the result does not exceed the ratio of 1.2, then the stock passes the test for buying.

GNI MC NCAV

The MC/NCAV valuation shows that the stock price of Great Northern Iron Ore Properties was overvalued from 2007 up to trailing twelve months 2012 because the ratio exceeded the 1.2 ratios. It shows that the price was expensive and therefore, the stock did not pass the stock test of Benjamin Graham.

Benjamin Graham’s Margin of Safety (MOS)   

The margin of safety is used to identify the difference between company value and price. The difference between market value and the true value is called the intrinsic value.

Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. “In my calculation, I used the enterprise value because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

Let’s see what the table below would bring us about GNI’s margin of safety.

GNI MOS

The average margin of safety was 53 percent or $227 average while the intrinsic value was $105 average. For 2007 and 2010, there was a zero margin of safety for GNI because the intrinsic value was below zero. The company’s growth during 2007 and 2010 was negative, thus resulted in negative intrinsic value.

Intrinsic Value

The formula for intrinsic value is given below.

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate)   

GNI IV

The explanation in the calculation of intrinsic value is as follows:

EPS: the company’s last 12-month earnings per share; G: the company’s long-term (five years) sustainable growth estimate; 9: the constant represents the appropriate P-E ratio for a no-growth company(Graham  proposed an 8.5, but we changed it to 9); and 2: the average yield of high-grade corporate bonds.

Earnings per Share

The earning per share was averaging $11.98. In addition, the earnings per share (EPS) and the sustainable growth rate (SGR) factor intrinsic value. The term earnings per share (EPS) represent the portion of a company’s earnings, net of taxes and preferred stock dividends, that is allocated to each share of common stock. The figure can be calculated simply by dividing net income earned in a given reporting period by the total number of shares outstanding during the same term. Because the number of shares outstanding can fluctuate, a weighted average is typically used.

 

Sustainable Growth Rate

Sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. In calculating this, you need to know how profitable the company is as measured by its return on equity (ROE). You also need to know what percentage of a company’s earnings per share is paid out in dividends, which is called the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. The formula: Sustainable growth rate = ROE x (1 – dividend-payout ratio).

    GNI SGR

The return on equity was 158 percent average while the payout ratio was 98 percent average. Return on equity (ROE) is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. Return on Equity formula is:

 ROE

Return on equity shows how many dollars of earnings result from each dollar of equity. There are two approaches in calculating the sustainable growth rate, these are the relative ratio approach and the average ratio approach.

Relative and Average Method

 

Results given in the table above shows that the margin of safety was greater by one percent in the average approach.

 great norther iron ore gni

During 2007 and 2010, there was no margin of safety because the intrinsic value line was below the enterprise value line. The margin of safety can be seen in the period 2008, 2009, 2011 and the trailing twelve months because the IV line was on top of the EV line. The difference between the two lines is the margin of safety.

GNI Relative Valuation Methods     

Relative valuation methods’ core concept for valuing a stock, is to compare market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)

This valuation will help us determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share. This will answer our question as to “What’s the status of the stock price?”

  

The P/E*EPS valuation shows that the stock price of GNI was undervalued from 2007 to the trailing twelve months 2012. The enterprise value represents 67 percent of the P/E*EPS ratio, thus, the price was cheap as a result of this valuation.

Another way of calculating this valuation is by using the average approach.  The table below will show us the difference between using the two approaches.

GNI Relative PE

By using the average approach, the price to earnings ratio was greater by $1 and the percentage of P/E*EPS ratio was greater by 27 percent.

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)  

The use of EV/EPS ratio is to separate price and earnings in the enterprise value by dividing the enterprise value of projected earnings (EPS). The result represents the price (P/E) and the difference represents the earnings (EPS). If the analysts think that the appropriate ratio is greater or lower than the result, then the stock is either over or undervalued.

 

The EV/EPS valuation, tells us that the price (P/E) that was separated from the enterprise value was 9 percent and the earnings (EPS) was a 91 percent average.  This might indicate that the price was cheap because it represents only nearly one-tenth of the enterprise value per share.

This valuation depends upon the discretion of the analyst whether he thinks the ratio was appropriate or not, so it is either over or undervalued. The graph below will show us how was the enterprise value was separated into price and earnings.

 

As it is seen, the price was really high than the earnings from 2007 to the trailing twelve months of 2012. It shows how the price was divided into two ratios.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA)         

The EV/EBITDA metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. It gives us an idea of how long it would take the earnings of the company to recover the price of buying the entire business, including debt.

   GNI EV EBITDA

The result of EV/EBITDA valuations tells us that it will take 8 years to cover the costs of buying the entire business of GNI.  In other words,  it will take 8 times of GNI’s cash earnings to cover the purchase price. Eight years is a long period of waiting. EBITDA represents only 13 percent of the enterprise value.

This valuation also shows the profitability of the company. The company’s gross margin was 98.98 percent average while its net margin was 83.68 percent average, shows a very impressive ratio.

In conclusion

The market capitalization of Great Northern Iron Ore Properties was stable. The company has a zero debt and its cash and cash equivalent were a 5 percent average, thus, the enterprise value was lesser of 5 percent of the market capitalization. The cost of buying the entire business to date, December 10, 2012, was $ 101 million at $50.50 per share.  The market price to date was $73.30 per share.

The net current asset value approach of Benjamin Graham tells us that the stock price of GNI was overvalued from 2007 to the trailing twelve months 2012. It indicates that the stock was trading above the liquidation value of the company; therefore, it did not pass the stock test of Benjamin Graham. On the other hand, the MC/NCAV valuation shows that the price was overvalued because the ratio exceeded the 1.2 ratios, therefore the stock did not pass the stock test as well.

Margin of Safety

Further, the margin of safety by Benjamin Graham shows a 53 percent average margin of safety. The intrinsic value was averaging $105 in the last five years while the earning per share was $11.98 and the return on equity was 158 percent average and the payout ratio was 98 percent.

Furthermore, the relative valuation shows that in the P/E*EPS valuation, the price was undervalued from 2007 to the trailing twelve months. The enterprise value represents 67 percent of the P/E*EPS ratio, therefore, the price was cheap. On the other hand, the EV/EPS valuation shows that the price (P/E) that was separated from the enterprise value was 9 percent and the earnings (EPS) was a 91 percent average.  This might indicate that the price was cheap because the price was only nearly one-tenth of the EV.

EV/EBITDA

The EV/EBITDA indicates that it will take 8 years to cover the cost of buying the entire business of Great Northern Iron Ore. The gross margin of the company was a 98.98 percent average while its net margins were 83.68 percent average, a very impressive ratio.

The margin of safety was averaging 53 percent and the relative valuation shows that the price was cheap, in addition, the gross margin and the net margin of GNI was very impressive, therefore, a BUY  position is recommended on the stock of Great Northern Iron Ore  (GNI) Properties.

Research and written by Cris

pont blank soulution inc

Point Blank Solutions Inc (PBSOQ) is Suffering from Losses

December 19th, 2012 Posted by Investment Valuation No Comment yet

Point Blank Solutions, Inc. (PBSOQ), through its subsidiaries, manufactures and provides bullet- and projectile resistant garments, fragmentation protective vests, slash and stab protective armor and related ballistic accessories. The company is based in Pompano Beach, FL 33069, United States. Source: Bloomberg

Value Investing Approach on Point Blank 

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. Moreover, the basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

The Investment in Enterprise Value on Point Blank

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

  Point Blank Solutions Inc

Explanation

The market capitalization for Point Blank went down by 61 percent during 2008. Total debt was 14 percent average. The same with cash and cash equivalent at 14 percent as well. Why did it happen?  The market value and the enterprise value were of the same amount because the total was added to market capitalization and the cash and cash equivalent were deducted.

Buying the entire business of Point Blank to date December 11, 2012, will cost $15.76 million at $0.32 per share. The market cap of PBSOQ to date was $13.66 million and the market price was $0.28 per share.

Net Current Asset Value (NCAV) Method 

The Net Current Asset Value (NCAV) is a method from Benjamin Graham to identify whether the stock is trading below the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value. Meaning they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying.

 Point Blank Solutions Inc

The net current asset value approach shows that the company’s stock price was overvalued from 2005 to the trailing twelve months 2009 because the market value was greater than the 66 percent ratio of NCAV. The 66 percent ratio represents only 9 percent of the market price.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation   

By calculating the market capitalization over the net current asset value of the company, we will know if the stocks are trading over or undervalued. The results should be less than 1.2 ratios for Graham to buy a stock.

  PBSOQ MC NCAV

The price was overvalued using the MC/NCAV valuation except only in 2008 where the price was undervalued. The stock did not pass the stock test because the ratio exceeded the 1.2 ratios. Overall, the stock of Point Blank was considered expensive.

 The margin of Safety (MOS) 

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization. 

PBSOQ MOS

Explanation

The margin of safety was 9 percent average. There was a zero margin of safety from 2006 to the trailing twelve months 2009. This indicates that the company’s stock was not a candidate for buying because it did not pass the requirement of at least 40-50 percent margin of safety.

Intrinsic Value = Current Earnings x (9 + 2 x Sustainable  Growth Rate)   

PBSOQ IV

Explanation

The explanation in the calculation of intrinsic value was as follows:

EPS is the company’s last 12-month earnings per share.  G stands for the company’s long-term (five years) sustainable growth estimate.   9 is the constant that represents the appropriate P-E ratio for a no-growth company. And 2 is the average yield of high-grade corporate bonds.

Earnings per Share (EPS)

Based on the table above, earning per share was -$0.16 average while the sustainable growth rate was -3.34 percent. Further, the annual growth rate was $2.32 and the intrinsic value was $1.59 average.

On the side note, earnings per share (EPS) and the sustainable growth rate (SGR) factors intrinsic value.

  Point Blank Solutions Inc

Sustainable Growth Rate (SGR)

Sustainable growth rate (SGR), on the other hand, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. Simplifying this, we will arrive at this formula: Sustainable growth rate = ROE x (1 – dividend-payout ratio)

PBSOQ SGR

Explanation

The average return on equity of Point Blank was -3.34 percent and the payout ratio was zero because the company did not pay cash dividends to its shareholders.

  ROE

Return on equity shows how many dollars of earnings result from each dollar of equity.  There are two approaches in calculating the sustainable growth rate, these are the relative ratio approach and the average ratio approach. I have summarized the difference between these two approaches in the table given below:

PBSOQ Relative

Explanation

The margin of safety was 9 percent in relative approach, while in the average approach it has zero margins of safety.

 Point Blank Solutions Inc

The graph above shows the enterprise value line was higher than the enterprise value line in 2005. It dropped by 97 percent in 2006 and the line continued to be lower than the EV line. It means that there was no margin of safety during these periods.

Price to Earnings/Earnings Per Share (P/E*EPS)  

This method will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earnings per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

   Point Blank Solutions Inc

The P/E*EPS valuation conveys that the price was a fair value from 2005 to the trailing twelve months 2009. The P/E*EPS was 99 percent of the enterprise value per share, nearly 100 percent.

There are investors that would consider buying at fair valued stock but this depends on the status of the company. There are two approaches in calculating this valuation; the relative and average approaches. The relative approach uses relative price to earnings and the average approach uses the average price to earnings ratio. Please take a look at the table below. By comparing the results, we can definitely say that the relative approach result of P/E*EPS ratio was higher compared to the average approach.

Point Blank Solutions Inc

The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS)

The use of this ratio is to separate price and earnings in the enterprise value by dividing the enterprise value of projected earnings (EPS). The result represents the price (P/E) and the difference represents the earnings (EPS).

 Point Blank Solutions Inc

Explanation

The price (P/E) that was separated from the enterprise value was -178 percent. While the earnings (EPS) were 278 percent, summing up to 100 percent. Moreover, the price was negative because the company has suffered losses all through the years except in 2007 and the number of shares was greater than net earnings.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.

PBSOQ EV EBITDA

It will take -8 years to cover the costs of buying the entire business of Point Blank.  This means, that there was no definite period to cover the costs of the purchase price since the company is suffering from losses. In addition, it shows the company was unprofitable since Point Blank suffered from losses.

In conclusion, 

The market capitalization for Point Blank went down by 61 percent during 2008. The total debt represents 14 percent average while cash and cash equivalent represent 14 percent as well. Moreover, buying the entire business of Point Blank to date December 11, 2012, will cost $15.76 million at $0.32 per share. The market cap of Point Blank to date was $13.66 million and the market price was $0.28 per share.

The net current asset value approach tells us that the stock price was trading above the liquidation value and therefore expensive. While the margin of safety was 9 percent average. The growth of the company was zero percent.

Relative Valuation

The price was fair valued in P/E*EPS valuation and overvalued in EV/EPS valuation. The EV/EBITDA indicates that there is no definite period to cover the cost of buying the entire business.

The company was very unprofitable and was suffering from losses. Therefore, I recommend a SELL in the stock of Point Blank Solutions Inc.

Research and Written by Cris

Landauer-ldr

Landauer (LDR) Investment Valuation

December 14th, 2012 Posted by Investment Valuation No Comment yet

LANDAUER (LDR) has been providing state-of-the-art technology and unparalleled customer service within the radiation safety industry to better understand and document information related to occupational, environmental and healthcare-related exposure to ionizing radiation since 1954.

Value Investing Approach on LDR

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. The essence is that any investment should be purchased at a discount, meaning the true value should be more than the market value. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

LDR Investment in Enterprise Value

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.  The formula is given below:

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

LDR EV

Explanation

The average market capitalization for Landauer Inc was $557 and moving up and down at a rate of 5 percent average. The total debt was 5 percent and the cash and cash equivalent was a 4 percent average. The enterprise value was greater by 1 percent against the market value. Purchasing the entire business of LDR would be paying 99 percent of its equity and 1 percent total debt

The costs of buying the entire business of Landauer Inc to date, November 9, 2012, would be $630 at $70 per share.   While the market price to date was at $56.19 per share.

Net Current Asset Value (NCAV) Method

The Net Current Asset Value (NCAV) is a method from Benjamin Graham to identify whether the stock is trading below the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value. Meaning they are essentially trading below the company’s liquidation value and therefore, the stocks are trading in a bargain, and it is worth buying.

LDR NCAVPS

The net current asset value approach shows that the stock of LDR was trading at an overvalued price from 2007 to ttm6 2012 because 66 percent of NCAVPS was lesser than the market value.  The 66 percent ratio was only 0.3 percent of the market value.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation

Calculating the market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios for Graham to buy stocks.

LDR MC NCAV

The MC/NCAV valuation shows that the price was overvalued in 2007 to ttm6 2012 because the ratio exceeded the 1.2 ratios. This means that LDR’s stock did not pass the test because the price was expensive. 

 The margin of Safety (MOS)

The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies, the market price and the company’s business value or true value. Graham called it the intrinsic value. According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety.

Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. The enterprise value is used because I think it is a much more accurate measure of the company’s true market value than market capitalization.

LDR MOS

Explanation

There was a zero margin of safety for 2007 to ttm6 2012.  The intrinsic value was 72 percent of the enterprise value.

Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable Growth Rate)

LDR IV

Explanation

EPS is the company’s last 12-month earnings per share.  G for the company’s long-term (five years) sustainable growth estimate. 9 as the constant which represents the appropriate P-E ratio for a no-growth company. And 2 for the average yield of high-grade corporate bonds.

The earnings per share (EPS) and the sustainable growth rate (SGR) factor intrinsic value.

EPS

Sustainable Growth Rate (SGR)

Sustainable growth rate (SGR) shows how fast a company can grow using internally generated assets without issuing additional debt or equity. To calculate the sustainable growth rate for a company, you need to know its return on equity (ROE). You also need to know the dividend payout ratio. From there, multiply the company’s ROE by its plow back ratio, which is equal to 1 minus the dividend payout ratio. Please refer to the formula included in the table below:

LDR SGR

Explanation

The sustainable growth rate was 4.60 percent average, while the return on equity was 31.99 percent average and the payout ratio was 86 on average. Landauer Inc is paying cash dividends to its common shareholders yearly from 2007 to ttm6 2012.

There are two approaches to calculating the sustainable growth rate. We need those to better understand the next topic. So what are those? The first one is by using the relative ratio and the other one is by using the average return on equity. The results of these approaches for LDR were summarized below.

LDR Relative

LDR Graph

There was a zero margin of safety for LDR since 2007 to ttm6 2012. The space in between these two lines represents the margin of safety since the EV line was higher than the IV line, this means a zero margin of safety.

Price to Earnings/Earning Per Share (P/E*EPS)

This method will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

LDR PE EPS

Explanation

P/E*EPS valuation for shows that Landauer Inc’s stock traded at an overvalued price. The reason behind is that enterprise value was greater than the P/E*EPS ratio. While in 2007 and 2009 the price was fair valued therefore undervalued. The enterprise value was 5 percent over the P/E*EPS ratio.

It indicates that the stock of Landauer Inc was expensive. The two approaches for calculating P/E*EPS is by using the relative price to earnings and the average price to earnings. And if you will look at the summary table below, you will see that both approaches results were almost the same.

LDR Relative PE

Enterprise Value (EV)/Earning Per Share (EPS) or (EV/EPS)

This method will determine whether the stocks are undervalued or overvalued. By multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS). Then comparing it to the enterprise value per share, we can determine the status of the stock price.

LDR EV EPS

The EV/EPS valuation for LDR indicates that the price (P/E) was 41 percent and the earnings (EPS) was 59 percent.  The discretion would depend on the analyst.

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries.

LDR EV EBITDA

Explanation

The EV/EBITDA valuation tells us that it will take 13 years to cover the costs of buying the entire business of LDR.  In other words, it will take 13 times of the cash earnings of LDR to cover the costs of buying the entire LDR. Thirteen years is a very long period of waiting.

For additional bits of information, EV/EBITDA valuation is also a gauge for the profitability of the company. Digging into the finances of LDR, the company had an average of 22 percent net earnings.

In conclusion,

The average market capitalization for LDR was $557 and it is moving up and downs at a rate of 5 percent average. The total debt was 5 percent, while the cash and cash equivalent were a 4 percent average. The enterprise value was greater by one percent against the market value. Buying the entire business would be paying 99 percent of its equity and one percent of its debt.

The cost of buying the entire LDR to date, November 9, 2012, would be $630 at $70 per share. The market price to date was $56.19 per share.

Net Current Asset Value

The stock was trading at an overvalued price because the market value was greater than the 66 percent of NCAVPS. While the MC/NCAV method indicates that the price was overvalued since 2007 to ttm6 2012. Because the ratio exceeded 1.2, therefore it indicates that the price was expensive.

Furthermore, the margin of safety for LDR shows a zero percent while intrinsic value was $45 average.  On the other hand, the SGR was 5. While the annual growth rate was 18 and the return on equity was 32 percent.

Relative Valuation

Moreover, the price was undervalued because the enterprise value was lesser than the P/E*EPS ratio. With EV/EPS,  the price (P/E) was 41 percent while the earnings (EPS) was a 59 percent average.

In addition, it will take 13 years to cover the costs of buying the entire business of LDR.

Since there was a zero margin of safety for LDR, therefore stock was trading at an overvalued price. EV/EBITDA not favorable, therefore a HOLD position is recommended on the stock of Landauer Inc.

Research and Written by Cris

freeport mcmoran copper and gold inc-fcx

Freeport McMoRan Copper and Gold (FCX) Investment Valuation

December 13th, 2012 Posted by Investment Valuation No Comment yet

Freeport-McMoRan Inc. (FCX) is a leading international mining company with headquarters in Phoenix, Arizona. The company operates large, long-lived, geographically diverse assets with significant proven and probable reserves of copper, gold, and molybdenum. FCX is the world’s largest publicly traded copper producer. FCX’s portfolio of assets includes the Grasberg minerals district in Indonesia, one of the world’s largest copper and gold deposits, and significant mining operations in North and South America, including the large-scale Morenci minerals district in Arizona and the Cerro Verde operation in Peru. Source: FCX website

Value Investing Approach on FCX    

This model is prepared in a very simple and easy way to value a company, it adopts the investment style of the Father of Value Investing Benjamin Graham. Graham believed in fundamental analysis and was looking for companies with a sound balance sheet and with little debt. The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. We calculated first the enterprise value as our first step. We believed this is important because it measures the total value of the company.

The Investment in Enterprise Value on FCX 

The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise  Value (EV) is the present value of the entire company.  Market capitalization is the total value of the company’s equity shares. In essence, it is a company’s theoretical takeover price, because the buyer would have to buy all of the stock and pay off existing debt, and taking any remaining cash.

Enterprise Value = Market Capitalization + Total Debt – (Cash and Cash Equivalent + Short Term Investment)

Explanation

The above table tells us that FCX has $35 billion average with exceptions in 2008 where the market cap dropped to 76 percent.  The total debt represents 14 percent on average, while the cash and cash equivalent were an 8 percent average, thus the enterprise value was greater by 6 percent against the market value. The movement in the market was at a rate of 4 percent average.

The buying price of Freeport-McMoRan Copper and Gold Inc’s entire business to date, October 30, 2012, was $42585 at $53.63 per share. If you decided to buy this entire company, then you will be buying the equity for 94 percent and total debt for 6 percent. The market price to date was $39.07 per share.

Price-to-Ore Ratio

Enterprise Value / Value of Proven and Probable Reserves (all Minerals) 

This is the most powerful valuation for evaluating a company’s share price relative to its mineral resources since it takes into account all minerals.  The lower you get, the better.  There are changes daily that took place with the stock price and metal prices. This valuation is also useful in comparing companies with the same or different minerals.

The value of total mineral resources can be the same as the proven and probable reserves (all minerals). These reserves that we were talking are the principal assets of a mining company. The term as used in the reserve data presented here is the part of the mineral deposit which can be economically and legally extracted or produced at the time of the reserve determination.

Proven Reserves

According to Freeport-McMoRan Copper and Gold Inc, the term “proven reserves” means reserves for which (1) quantity is computed from dimensions revealed in outcrops, trenches, workings or drill holes; (2) grade and/or quality are computed from the result of detailed sampling; and (3) the sites for inspection, sampling and measurements are spaced so closely and the geologic character is sufficiently defined that size, shape, depth and mineral content of reserves are well-established.

Probable reserves

Likewise, the term “probable reserves” means reserves for which quantity and grade are computed from information similar to that used for proven reserves but the sites for sampling are farther apart or are otherwise less adequately spaced. The degree of assurance, although lower than that for proven reserves, is high enough to assume continuity between points of observation.

FCX EV ORE

Explanation

We have already discussed the enterprise value in the first part of this valuation, now, let us analyze the value of proven and probable reserves, as it is seen in the table that the value was increasing at the rate of 21 percent average, impressive.  The EV/Total Resources or EV/Value of Proven and Probable Reserve shows, that in 2007 and 2010 the price was expensive because the enterprise value was greater than the value of total resources. While during the period of 2008, 2009 and 2011, the price was cheap because the enterprise value was lesser than the value of total resources.

FCX Reserves

Explanation

FCX determined reserves using the long-term average prices of $2 per pound for copper, $750 per ounce for gold and $10 per pound for molybdenum.

Net Current Asset Value (NCAV) Method

The Net Current Asset Value (NCAV) is a method from Benjamin Graham to identify whether the stock is trading below the company’s net current asset value per share, specifically two-thirds or 66 percent of net current asset value. Meaning they are essentially trading below the company’s liquidation value and therefore, the stocks is trading in a bargain, and it is worth buying.

FCX NCAVPS

Explanation

The net current asset value (NCAV) approach for FCX indicates that the stock traded at an overvalued price because the market price was greater than the 66 percent result of the NCAV, therefore, the price was expensive. In other words,  the stock of Freeport-McMoRan Copper and Gold Inc did not pass the stock test of Benjamin Graham because the stock was trading above the liquidation value of the FCX.

Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation

Calculating the market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios for Graham to buy stocks.

FCX MC NCAV

The MC/NCAV valuation for FCX tells us that the stock was trading at a price that is overvalued from 2007 to ttm2012 because the ratio was greater than 1.2.  The net current asset value was 14 percent of the market price.

The margin of Safety (MOS)

According to Graham, the investor should invest only if the market price is trading at a discount to its intrinsic value. Value investing is buying with a sufficient margin of safety. Graham considers buying when the market price is considerably lower than the intrinsic or real value, a minimum of 40 to 50 percent below. FCX MOS

Explanation

The margin of safety indicates that there was a margin of safety from 2007 to 2011, while the trailing twelve months (ttm), 2012 was a zero. The average margin of safety was 57 percent. Knowing how we arrive at those results is like a breath of fresh air. With that,  Cris shared to me the formula for intrinsic value below:

Intrinsic Value =  Current Earnings x (9 + 2 x Sustainable  Growth Rate)

FCX IV

Explanation

EPS or the company’s last 12-month earnings per share; G or the company’s long-term (five years) sustainable growth estimate; 9 for the constant which represents the appropriate P-E ratio for a no-growth company, and 2 as the average yield on high-grade corporate bonds.

The average intrinsic value was $879, the company suffered losses in its net earnings at a rate of 62 percent, this is the reason why it’s earnings per share was negative because of EPS factors net income.

Freeport McMoRan Copper and Gold Inc

FCX SGR

Explanation

Return on equity and the payout ratio factors SGR.

Freeport McMoRan Copper and Gold Inc

The return on equity factors net income as well and the average shareholders’ equity. Since 2008 the net earning of FCX was negative at 62 percent, the result of ROE was negative also. This is the reason why the intrinsic value soared up very high at 1348 percent in 2008.

Freeport McMoRan Copper and Gold Inc

Explanation

We have already learned why the red line soared up so high in 2008 at that level as per our prior discussion. If we put in figures or in percentage, this distance is 57 percent average from 2007 to ttm2012. Buying the stock of FCX to date will have no margin of safety.

Freeport McMoRan Copper and Gold Inc

Explanation

There are other approaches in calculating the sustainable growth rate and this affects the intrinsic value and the margin of safety. This is by using the relative and the average return on equity. I have summarized the difference between using these two approaches as shown in the table above.

By comparing, we can say that the average method produces a higher result in the growth of the FCX.

FCX Relative Valuation Methods

The relative valuation methods for valuing a stock is to compare the market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

Price to Earnings/Earning Per Share (P/E*EPS)

This method will determine whether the stocks are undervalued or overvalued by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share, we can determine the status of the stock price.

Freeport McMoRan Copper and Gold Inc

In 2008 to 2012, the stock was trading at an overvalued price. Because the enterprise value was greater than the P/E*EPS ratio. The P/E*EPS ratio was 44 percent of the enterprise value, this means price was overvalued. The result of P/E*EPS indicates that the stock was expensive.

Relative and Average Approaches

FCX Relative PE

The result in using the relative value was favorable with FCX because it doesn’t show a negative P/E*EPS ratio.

Enterprise Value (EV)/Earning Per Share (EPS) or (EV/EPS)

Freeport McMoRan Copper and Gold Inc

The price (P/E) was 29 percent and the earnings (EPS) was 71 percent. This indicates that the price was undervalued. The result of this valuation will depend on upon the discretion of the analyst’s, or whatever the analyst deemed appropriate

Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA).

This metric is used in estimating business valuation.  It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings. This metric is useful for analyzing and comparing profitability between companies and industries.  It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business.

FCX EV EBITDA

Explanation

EV/EBITDA valuation indicates that it will take 4 years or 4 times the cash earnings to cover the costs of buying the entire business.  Moreover, this valuation also shows the profitability of the company.  It tells us that the earning before income tax of FCX was negative during 2008 at a rate of 75 percent. On the other hand, its net earnings at 62 percent, but have recovered the succeeding periods with favorable margins.

In conclusion

The enterprise value was stable at $35 billion, except in 2008, where the market drops at 76 percent.  While total debt was 14 percent and cash and cash equivalent was an 8 percent average. Thus, making the enterprise value greater by 6 percent than the market capitalization.

Buying the entire business to date, October 30, 2012, would be $42585 at $53.63 per share.  The market price to date was $39.07 per share.

The EV/Value of Proven and Probable Reserves tells us that the price was expensive in 2007 and 2010. Because the enterprise value was greater than the value of total reserves.  While, during the period of 2008, 2009 and 2011. It shows that the price was cheap because the enterprise value was lesser than the value of total reserves.

Net Current Asset Value

On the other hand, the net current asset value approach indicates that the stock was trading at an overvalued price. Since the enterprise value was greater than the 66 percent of NCAV. Meaning, the stock was trading above the liquidation value of the FCX.  Moreover, the price was overvalued because the ratio was over 1.2, therefore, the price was expensive.

Further, the margin of safety tells us that there was a margin of safety from 207 to 2011. Howbeit in ttm2012, there was zero margins of safety. The average margin of safety from its 5 years of operation was 57 percent.  The intrinsic value soared up very high in 2008 at 1348 percent. While SGR was $5, and the annual growth was $18. In addition, the return on equity (ROE) was $9, not impressive.

Relative Valuation

Likewise, the price was overvalued from 2008 to ttm2012. In 2007 the price was fair in the P/E*EPS valuation. The enterprise value was greater than the P/E*EPS result. The price to earnings ratio in relative approach was $12 while using the average ratio, the result was -$6.11.

While the EV/EPS valuation tells us that the price (P/E) was 29 percent and the earnings (EPS) was 71 percent. On the other hand, the EV/EBITDA valuation shows a result of 4 years or 4 times.  This means that buying the entire business will take 4 times the cash earnings to cover the costs of buying.

Overview

The EV/Value of Proven and Probable Reserves shows that the price was cheap, in general.  The margin of safety was 57 percent average. On the other hand, the P/E*EPS and the EV/EPS indicate price was undervalued. A BUY position is recommended on the stocks of Freeport-McMoRan Copper and Gold Inc (FCX).

Research and Written by Criselda

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