Study in Valuation: Fin 6438 Module 4, 2020
Course Syllabus
Instructor Information Michael Ryngaert
fin网课代修 The course draws heavily on prior coursework in Valuation, spreadsheet modeling and financial statement analysis (in particular FIN6429 and FIN6465)
Course Objective: fin网课代修
The objective of this course is to apply the concepts and analytic techniques taught in other courses offered in the Graham-Buffett course sequence (and MSF course sequences) to create a professional valuation analysis. The course draws heavily on prior coursework in Valuation, spreadsheet modeling and financial statement analysis (in particular FIN6429 and FIN6465)
Materials for Course
There are no required materials:
Course website: To eliminate materials costs I am posting articles that are not core to an analysis but examine stock screening and value investing techniques that might be best characterized as Quant techniques. There are also some articles discussing “accounting” valuation using analyst forecasts.
Class handouts: There will be a number of class handouts (like a discussion of the equity risk premium and the cost of equity AND a primer on valuation). Most of these (and my own valuation models) will be posted on the class site (Canvas).
Suggested familiarity with a valuation book (or valuation basics): Two recommendations:
Corporate Valuation: Theory Evidence and Practice, Holthausen and Zmijewski
This first recommendation is a bit more technical. Another good practitioner book that has been used in Measuring and Managing Value is
Valuation: Measuring & Managing Value the Value of Companies, Tim Koller, Marc Goedhart, and David Wessels (5th or 6th edition) fin网课代修
I did not order either book since many of you have one of them. They are available on Amazon.com or a similar site. You can get older editions used. Neither book is required. We will go through a very detailed valuation analysis for a couple of firms, and I will have extensive notes on that valuation and detailed spreadsheets as well.
For those not familiar with valuation or looking for a review, also see the Canvas folder entitled Review Valuation – Silverware. I run through the details of a hypothetical firm with a written description of methodology and an excel spreadsheet.
Course Deliverables: fin网课代修
Office meetings:
I want to make sure people are progressing on their projects. For that reason, I expect you to meet with me before April 9 to tell me what firm you have and we can discuss any potential problems you might face. Failure to meet will DEDUCT 5% of total grade on scale of 0 to 100 from the final paper.
The Valuation Analysis
The course requires an in depth analysis of a stock. There are currently 40 plus students enrolled. This makes individual projects a bit tough to manage, but I do not want to deny anyone the pleasure of going it alone. So, you can work with one other person or do a solo valuation. The valuation analysis will consist of an analysis of an industry as well as a valuation study of your company in that industry. Students may select the company that they wish to evaluate (with instructor approval).
The results of this analysis will be presented in a written report to be entitled:
Valuation Analysis of “Name of stock”. You should send the report and any related excel files to my e-learning page under final assignment. These are due on the Friday after the last day of class. Note: Important spreadsheets should be in the paper, not just referenced to excel file. For example, the DCF model that generates your valuation should be in the written version of the paper.
TRY TO MAKE ANY SPREADSHEETS LEGIBLE TO THE EYE.
The excel file allows me to assess if there are “minor” errors that cause odd results that are not observable in paper. Don’t refer me to your excel spreadsheets in the text of your paper. You should also not give me standard annual reports, 10-ks, or 10-qs since they are readily available to me online. You should reference them, or any other source in the paper. fin网课代修
Many of the things that should be considered in this valuation analysis, as well as the procedures used in the valuation, have been discussed in other courses in the Graham- Buffett Course Sequence or MSF classes. It would be very useful to review your notes from these classes. This syllabus contains some suggestions to help you in your Valuation Analysis. The first assignment will also reinforce these skills.
I suggest that the industry of the firm you choose be one that you have some familiarity with and that you have some confidence in your ability to make ballpark projections about the future earnings profile of firms in the industry.
Course Description fin网课代修
This course stresses the practical applications of valuation to those that participate in the practice of money management. The course is particularly geared toward the following audiences:
1)individual investors
2)those who wish to work for mutual funds (hedge funds) that activelymanage money
3)securityanalysts
4)those who wish to participate in the private buyout industry or mergers & acquisitions
The approach of the course is as follows. First, why is it possible that active money management may be able to beat “passive” asset management? A rationale for why the efficient market theory “does not always rule” is given. Second, we follow the methodology that a value oriented mutual fund (or hedge fund) might follow. We identify a set of stocks through mechanical sorting mechanisms that might, on average, outperform (or under perform) the overall market.
We demonstrate that many of these sorting procedures could have been used HISTORICALLY to identify PORTFOLIOS of stocks that over or underperform market indices. Recent evidence suggests the effectiveness of these sorting mechanisms has been diminished, and perhaps eliminated (in some cases). This calls into question so-called Quantitative investing that was quite popular in past years. Such sorts may still have value though in identifying stocks that are worth a closer look (as out of favor stocks).
We will also use some variants of an EVA based valuation model to do a crude EVA valuation of JP Morgan and a couple of additional companies.
We will also review evidence on the effectiveness of using these EVA models as a means of distinguishing stock market winners and losers. While quantitative sorting of stocks and the EVA valuations are helpful for quickie insights or screening potential investments, they all are susceptible to various problems and are generally devoid of detailed economic analysis. They just use current accounting figures or consensus earnings figures that may not fully capture firm value. Hence, we turn our attention to more “detailed” valuation methodologies like DCF. fin网课代修
Before going into detailed DCF analysis (and if appropriate multiple analysis) on individual firms, I will also spend a session on “Macro-Valuation.” In particular, an examination of the Shiller CAPE (cyclically adjusted price to earnings ratio). Variants of this have been used to compare S&P 500 valuation to “normalized earnings.” We will discuss the value of this approach and in the process use it to back out what might be deemed a reasonable risk premium that is embedded in the cost of equity and WACC of companies in today’s market. Also, given the possibility of higher market risk premiums and/or interest rate levels in the future, we will discuss using multiple WACCs in an analysis (one or a number of years and a higher one thereafter).
A number of class sessions will be devoted to instructor presentations of what constitutes a good valuation analysis.
This will give you a good idea of what I am looking for in your projects and will also serve as a review of key valuation concepts you were exposed to in prior courses.
I currently plan to conduct analyses that go into various levels of depth on 2 or 3 companies. My first valuation will be the easiest. Home Depot (HD) has one line of business, is well positioned to survive Amazon, has years of steady operations and a simple capital structure. Many people in this class choose retail firms for analysis – alas because they are at first glance simple. HD may be the simplest of the simple. Others may not because their competitive positions are in far more flux. At any rate, HD is a simple way of addressing a series of core valuation issues that you should address in your paper.
My second valuation is tentatively a small South Florida firm called Flanigan’s Enterprises (ticker BDL).
What makes this firm interesting is some unconventional financing of operations, difficulty of figuring out a suitable cost of equity, possible related party transaction problems, and multiple lines of business.
A third potential valuation (or substitute for Flanigans) is yet to be determined. I will accept suggestions, though it is likely to be EBAY, Harley Davidson, or Verizon. Those three firms have some unusual aspects (defined benefit pension plans and important foreign operations) and take us outside of the retail space. JP Morgan is another possibility if we want to look at valuation of a financial firm that has its own set of issues. fin网课代修
The point is we want some complexity in a couple of the valuations to demonstrate how to deal with non-standard (from textbook point of view) items.
By the way, what is complexity in a valuation? Usually non-operating assets and liabilities and how to deal with them. This would include:
Operating Leases: Home Depot and most retailers Equity affiliates: Coca Cola, Xerox
Minority Interests: Flanigan Enterprises Large Excess Cash positions: Apple
Pension and Health Care liabilities (or assets for overfunded pensions): Xerox, Fed Ex In house Financing Units: Harley Davidson, Xerox
Large option and restricted stock units: Many firms (Home Depot has some) fin网课代修
These items can impact DCF valuations and Enterprise multiple valuations in interesting ways. It is also why I want to be able to sit down and look over your valuations. No reason to get this stuff wrong (though solutions may not be perfect).
ROCKET GROWTH is another area of difficulty (Amazon, Netflix, early stage pharma)
– Knowledge of these industries is paramount).
We will have one open class dates in the last couple weeks of class. I will have extended office hours. I have regular office hours, but you can also arrange to meet by appointment. YOU SHOULD PLAN ON MEETING WITH ME WHENEVER YOU ARE HAVING DIFFICULTY WITH YOUR PROJECT AND YOU HAVE TO
MEET AT LEAST ONCE AFTER FIRM APPROVED. This class should be viewed as an opportunity to get the basics of valuation right before you leave campus. Most of you have listened to lectures, taken notes, and read relevant materials. Few of you have done a detailed valuation analysis of a company.
Grades
Grades will be based on your the Valuation paper. I will also take into account quality comments made in class for close calls on grade.
Class Schedule: (class notes are made available in class or on line)
March 10: Initial Class Meeting (What are we up to here, minimal topic coverage) March 12: Lecture on generating trading rules (Value, momentum, and refinements)
Reading: See papers listed below in Canvas Folder: Investment Articles
(I will also present more updated data on “trading rules” in class)
March 17: More on Screening & Intro to EVA models as screening tool Reading: All articles are in Canvas folder:
Charles Lee, Measuring Wealth
Chan, Karceski, Lakonishok – Persistence of Growth Rate (packet) Frankel and Lee – Accounting Valuation
March 19: EVA valuation continued
March 24: Macro Valuation and Cost of equity and WACC (handout pending on web) March 26: Valuation Review and Valuation Analysis (Home Depot)
March 31: Valuation Analysis (Home Depot) April 2: Valuation Analysis (Home Depot) April 7: Valuation Analysis (to be named) April 9: Valuation Analysis (to be named)
April 14: Valuation Analysis (firm to be named) April 16: Valuation Analysis (firm to be named)
April 21: Valuation Analysis (firm to be named or office hours) April 23: All Day office hours (except noon to one)
April 24 (Friday) – Paper due by 5PM – hard copy to office fin网课代修
Below is a list of articles that I have posted to the class site under files. They are not required reading. They pertain to the first couple of lectures and are provided for your perusal if interested in details. They are more for your reference than detailed reading
First topic of stock screening – articles in Investment Articles folder
The Profitability of Momentum Strategies, by L. Chan, Jegadeesh and Lakonihok: Financial Analysts Journal 1999
Shows that momentum investing “works” File Name: Momentum
Contrarian Investment, Extrapolation, and Risk, by J Lakonishok, Shleifer, and Vishny, Journal of Finance, 1994
This is the original research paper that got the discussion rolling on using past data to identify contrarian investing styles that seemingly work. It became the foundation of LSV Asset Management, a Chicago firm that manages about $100 billion in assets with around 30-40 employees.
File Name: LSVContrarianInvesting
Value vs. Glamour: A Global Phenomenon, from Brandes Institute (2015)
Article updating results on Value v. Glamour with 5 year holding periods on investments classified as glamour v. value. Data runs through 2014
File Name: value-vs-glamour-UPDATEBRandeis
Market Efficiency in an Irrational World, Daniel and Titman, Financial Analysts Journal, 1999
Weds together results using book to market and momentum sorts. This captures fact that some “value” stocks may still be negative momentum plays and some glamour stocks are still positive momentum plays.
File Name: DanielTitman
Expectations and the Cross-Section of Stock Returns, Rafael La Porta, Journal of Finance, 1996 fin网课代修
This paper shows that at least for one decade, stocks with high long run earnings growth expectations tend to underperform those with lesser expectations – consistent with contrarian trading strategies.
File Name: La Porta LT earnings growth
Papers on EVA Valuation:
Charles Lee, Measuring Wealth, CA Magazine, 1996
Article shows how to do an EVA valuation analysis using accounting numbers File Name: Measuring Wealth
Accounting Valuation, market expectation and cross-sectional stock returns, R. Frankel and Charles Lee, Journal of Accounting & Economics 1998
Paper looks at applying EVA valuation models using analyst forecasts and trading rules based on them.
File Name: Frankel_Lee_EVA_Investing
Chan, Karceski, Lakonishok, The Level and Persistence of Growth Rates, Journal of Finance, 2003
Some historical data on analyst over-optimism on long term earnings growth rates File Name: ChanKarceskiLakonishokgrowthrates
PAPER OUTLINE (what I expect) fin网课代修
Table of Contents
Executive Summary
For each firm you should briefly assess each firm’s business prospects and issue a trading recommendation (Buy, Neutral, Sell). You should briefly give the basis for your recommendation including a brief summary of the major opportunities and risks facing your companies. Remember a buy recommendation should be used with great care and remember about this summary that I said brief!
Your cover sheet should also include
Book to market value of equity Market capitalization
Price to trailing 12 month earnings
Price to forward consensus earnings (if there are EPS forecasts) Price to your estimate of year ahead earnings
Consensus 5 year EPS growth forecast (if there are EPS forecasts – yahoo). Net Insider buying/selling last 3 months
Free Cash flow yield (CFO – Capital expenditures)/Market vale equity (CFO= Cash flow from operations, Cap ex = Capital Expenditures) Any additional metrics that are value oriented or risk oriented like beta.
Overview of each firm
Business Overview (what does firm do, how is business going, major events) Recent Stock price performance (explain any sharp moves if possible) – Might use 4 or five year graph verse market and/or peers (often in firm disclosures)
Industry Competitive Analysis (keep short and sweet – paragraph on any item unless truly complicated set of issues) fin网课代修
Prospects for industry growth Rivalry Among Existing Firms Threat of New Entrants Bargaining Power of Buyers Bargaining Power of Suppliers
Threat of Substitute Products or Services
Strategies of your firm & an assessment of their effectiveness Cost Leadership strategy and/or
Product differentiation strategy and/or Focus (niche) Strategy
SWOT analysis (Strengths, weaknesses, opportunities, threats)
Management Quality
Past Track record of success or failure Management integrity (if possible to assess)
Past track record on use of firm cash (Are managers good capital allocators?) Depth of management team
Financial Ratio analysis past 5 years (and average for ratios) Income Statements:
Sales growth, Gross margins, operating margins, various cost items as a percentage of revenue, average tax rate (less relevant these days)
Balance Sheet:
Assets and liabilities as a percent of sale as basis of forecast Leverage ratios (debt to equity)
Firm’s historic profitability: ROOIC (purged of non-recurring items if possible)
Statement of Cash Flow: Evidence of repurchases, stock issues, and free cash
flow generation in past (how has firm used cash)
Note: much of this section sets up your assumptions about the future with respect to certain ratios used in forecasting like working capital to sales ratios. fin网课代修
Valuation of firm (methods)
Discounted Cash Flow based entity valuation with detailed spreadsheet Model (using terminal value based on 1) perpetual growth model if doable, 2) EBITDA multiple, 3) liquidation value if needed
Explain where WACC comes from
Comparable Price Multiples
Price to year ahead (if possible) consensus earnings forecast Equity valuation implied by Enterprise Multiples
If you use some multiple that is not strictly base on mean or median comps, then you should discuss it’s justification
EVA valuation model if you think it adds anything
Investment Intangibles fin网课代修
This might include whether management is “signaling” that they are confident (or not) in the firm’s prospects. Examples include recent insider trading activity, recent stock issues, recent adoption of stock or profit based incentive schemes, and stock repurchase activity. You might also note recent earnings and price momentum registered by the stock. Finally is there a CATALYST for stock to move up. In particular will firm beat EPS forecasts going forward (tricky now with Cornavius) clouding the future.
Recommendations: (Buy, Sell, Neutral)
Include a brief summary of major opportunities and risk facing the firms.
May also distinguish between long and short term investment prospects (as odd as that may seem)
Final submission should submitted electronically to Canvas by April 24 at 5 PM. You should also submit excel spreadsheets that support paper conclusions to a Canvas Assignment page. The paper should not be more than 15 to 20 pages single spaced (EXCLUDING tables and graphs)
Comments:
The valuation models will be based on DCF analysis of the type stressed in your prior courses and outlined in the valuation text. You should use the entity valuation model discussed in prior courses. This requires deriving a WACC for each company and cash flow forecasts based on a clearly illustrated set of assumptions. This also requires a set of assumptions to justify a continuing value calculation. The entity valuation also requires adjustments for options, pensions, debt and non-operating assets. I also have suggested comparing the multiple on your stock to those of competitors. In a class presentation (and in your write-up) it might be worth explaining why the multiples differ among competitors.
Sources of information:
Below is a list of potential sources. The best data source in my estimation is the SEC Edgar files that give the raw filings of companies. This beats some, but not all, computerized data bases that sometimes lump accounting numbers together in a questionable fashion. Also, getting the raw SEC files (10-Ks) is necessary to get a look at a firm’s financial statement footnotes, a good initial introduction to each firm and its strategies, competitors, etc… Most firms also have access to their 10-ks and/or annual reports in PDF format in the investor relations section of their websites.
To dig deeper about individual companies, I suggest the following strategies. First, read trade publications (if available) that talk about a firm in the context of its industry.
Second (if possible), talk to customers and workers of the firm. Third, talk to security analysts that follow a particular firm.
These people might (or might not) be helpful with respect to getting information. Some companies also list the security analysts (and their phone numbers) that follow them on their websites. You might also download at least one analyst’s report on the firm and get its Value Line sheet from the library (business website). This will give you a feel for how other informed parties are forecasting future performance variables. Look for initiating reports by analysts. These often go into great detail about the firm. Investor relations may be helpful in getting a list of names and numbers of analysts. IR people may also give their estimation of their business rivals or refer you to the CFO. fin网课代修
For smaller companies, the CFO might even talk to you if you have questions about the company. Big firms most unlikely. Company websites can also be a good source of information about the company and recent press releases about the firm. Many websites also contain a link to the firm’s most recent conference call with analysts and investor presentations and have recordings or power points. You can hear the questions analysts have about the business and how management responds to those questions (it was helpful for Lowes). Management will also frequently give “guidance” at these events. PDF files of recent SEC filings like 10-Ks and 10-Qs are also often available on the company site via links. NOTE: Be informed when you talk to investor relations, CFOs and/or security analysts. These are busy people and they will not suffer fools lightly!
Other valuable internet sources include:
UF library: on-line access. You can go to business page Lots of great stuff here – including:
The Company Information Center prompt at the UF business library (online) has lots of great links that talk about the company and its industry. Click on the Company Center tutorial and it will give you lots of tips for researching firms. Among the websites of value:
OneSource: Firm and Industry information and some analyst reports online.
Analyst reports can be downloaded as PDF files. They give you some nice (if possibily too optimistic) examples of spreadsheet forecasts. This site has many valuable items. You can download 5 year historical excel spreadsheets of financial statements on the firm’s own disclosure as well as segment data. The site also gives industry reports, significant developments, news articles, mechanisms for identifying peer companies, and other resources. For some firms wit will also discuss strengths & weaknesses of firms and strategic initiatives.
Great site.
Hoover’s Online fin网课代修
This is an excellent online service. In-depth company profiles can be had and lots of links to other worthwhile research tools (industry trade magazines, insider trading, etc..) can be found, information on competitors and comparable firms)
Standard & Poors: Nice industry surveys
IBISWorld: Good industry surveys and statistics on forecasted industry growth rates
Factiva: On UF business library site
Has more extensive database of recent news about your firm. You can do news searches for all data sources in Factiva and come up with some pretty good news stories about your company, some from local newspapers. Factiva also sometimes has transcripts of conference calls (as do many company sites)
Bloomberg Terminals:
Most of you have accessed Bloomberg data in the Capital Markets Lab. Besides stock screens – EQS function, up to date stock market betas can be calculated easily on Bloomberg. Information on the value of company debt issues is also frequently available. It is a good place to figure out typical cost of debt for firm’s analyzed. Like OneSource and Capital IQ below it has downloadable financial statement information and information on comparable firms.
Capital IQ:
This is also a rich database that some of you may be familiar with from other courses and may even use as a primary site for information. It is similar to OneSource and Bloomberg (good for finding comparable firm analysis)
Beyond the University Library websites: Yahoo Finance – (http://finance.yahoo.com)
Tons of information or links to information like insider trading activity and links
Securities Exchange Commission Edgar database (www.sec.gov) fin网课代修
This is the SEC site for Edgar. Besides the 10Ks, other filings of interest are:
10-Qs: Quarterly earnings updates and analysis of firm performance. Right now, for many companies the most recent data available is a 10-Q. For firms with fiscal year end in December, many 10-Ks won’t be available until March 31!
8-Ks: Significant events affecting the firm (important press releases, merger announcements, share repurchases, etc..)
Def-14A: Proxy statement that includes information on managerial ownership.
Seeking Alpha fin网课代修
Basically a bloggers website of people with investment views and some with fairly elaborate models. Some are good. Some are not. The site often has past conference calls and investor presentations available.
GuruFocus
A site that gives the recent purchases and sells of “elite investors.” Also have information on firms with positive insider trading and repurchases and additional information. Can get a 7 day temporary membership. If you don’t unsubscribe, you pay!
Value Line Publication (On Line library)
Not a bad source to start with. Value Line gives you some pretty good summary of operating numbers over the past 10 years. This is good if you want to look for stocks with a decent operating history (sustained high ROEs) that might be currently trading at historically low multiples relative to the market or the stocks own trading history. It is available – at least for larger firms on the library
website. NOTE: Value Line betas tend to make more sense than many other betas put out by other sources!
Certain historical stock screening results can be constructed using the Ken French website:
http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/data_library.html#Researc h
Some Advice on Firm Selection:
Obviously, there are many firms to consider. I might recommend firms that are fairly easy to understand. You might also want to look at stocks that fall out of certain “value” screens. fin网课代修
Some businesses are fairly easy to understand and make some rudimentary projections on (unlike the Software business to name one example) and others are not. Each of you has a different familiarity with certain industries (a circle of competence). Stick to those that you understand best or perhaps have some great motivation to know better.
