Finance Assignment
Vick777
fin_321fu_ben_.docxStock Valuation: CVS Health Corporation (CVS)
CVS Health Corporation is a company that was founded in America that provides pharmacy health care services through two segments: Pharmacy Services and Retail Pharmacy. Its company slogan is “Health is everything.” The Pharmacy Services segment focuses on pharmacy benefit management services which serves employers, unions, insurance companies, as well as many others. It provides services such as prescription management services, clinical services, and plan design and administration. It is the second largest prescription management and pharmaceutical services business in the United States.
The other segment of CVS Health Corporation is its Retail Pharmacy, which includes its over 7,500 retail drugstores across the United States. It is the second largest pharmacy chain in the United States. The Retail Pharmacy segment sells prescription drugs, over-the-counter drugs, beauty products, convenience foods, greeting cards, as well as many other products and services. Along with its retail drugstores, this segment also has 860 health care clinics which are all located relatively closely to its retail drug stores.
As of May 30, 2015, the consensus forecast amongst 25 polled investment analysts covering CVS Health Corp advises that the company will outperform the market. This has been the consensus forecast since the sentiment of investment analysts improved on Apr 08, 2004. The previous consensus forecast advised investors to hold their position in CVS Health Corp. A 12 month price targets for CVS Health Corp was forecasted, with a median target of $115, a high estimate of $125 and a low estimate of $108. The median estimate represents a 15.06% increase from the last price of $99.95. Both dividends per share and earnings per share excluding extraordinary items growth increased 22.22% and 5.90%. The positive trend in dividend payments is noteworthy since very few companies in the Retail Drugs industry pay a dividend. With everything going in favor of CVS, they plans to grow and expand by buying Omnicare for $12.7 billion.
2. Beta and WACC
This company's capital structure relies on a level of debt that is comparable with the Food and Staples Retailing industry's norm, at 25.65%. Additionally, even though there are not enough liquid assets to satisfy current obligations, Operating Profits are more than adequate to service the debt. Accounts Receivable are typical for the industry, with 24.58 days worth of sales outstanding. Last, inventories seem to be well managed as the Inventory Processing Period is typical for the industry, at 36.04 days.
Beta:
Rationale for any adjustments How does your beta compare to Yahoo’s, Value Line’s? What might cause any difference?
WACC assumptions (basis): Capital structure
Interest rate on debt
Tax rate
Beta: 1.09
WACC = 13.50%
KE:14.87%
Beta equation, kE :
E(RCVS) = RF + βCVS [E(RM) – RF]
14.87%= 2.92% + 1.09 [13.84% – 2.92%]
= 14.87%
The above table shows the calculation of the Weighted Average Cost of Capital (OTC:WACC). Cost of equity has been calculated using a market return of 10.3% (5-year average return of S&P 500) and a risk free rate of 2.91% (10-year Treasury bond yield). The cost of equity is calculated to be 9.49%. Similarly, the after tax cost of debt is calculated to be 3.16%. Using these costs, a WACC of 8.54% has been derived from the WACC formula.
3. Dividends Discount Models:
Constant Growth:
|
Dates |
Dividends |
Growth Rate |
Required Rate of Return |
Value of Growth: P= Div*(1+g)/(r-g) |
|
4/22/2015 |
$0.35 |
13.62% |
14.87% |
31.8136 |
|
1/20/2015 |
$0.35 |
13.62% |
14.87% |
31.8136 |
|
10/21/2014 |
$0.275 |
13.62% |
14.87% |
24.9964 |
|
7/17/2014 |
$0.275 |
13.62% |
14.87% |
24.9964 |
|
4/17/2014 |
$0.275 |
13.62% |
14.87% |
24.9964 |
|
1/21/2014 |
$0.275 |
13.62% |
14.87% |
24.9964 |
|
10/17/2013 |
$0.225 |
33.33% |
14.87% |
20.4516 |
Multi-stage Growth:
|
Years |
Future Growth Rate Estimate (FGR) |
Estimated Future Dividends |
Future Growth Rate Estimate |
|
2014 |
8.29% |
$0.275 (given) |
Div*(1+2014 FGR)=2015 Div |
|
2015 |
9.62% |
$0.2977975 |
0.275*(1+8.29%)= 2015 Div |
|
2016 |
10.96% |
$0.32644562 |
2015 Div*(1+ 2015 FGR)=2016 Div |
|
2017 |
12.29% |
$0.362224059 |
2016 Div*(1+ 2016 FGR)=2017 Div |
|
2018 |
13.62% |
$0.406741396 |
2017 Div*(1+ 2017 FGR)=2018 Div |
|
2019 |
15.53% |
$0.462139574 |
2018 Div*(1+ 2018 FGR)=2019 Div |
There are a few important factors that determine the stock value; the list includes valuation, growth expectations, volatility, required rate of return, dividends. Valuation is the is the method of calculating theoretical values of companies and their stocks by their assets and liabilities. This plays a big role in the long term, the main use of this method is to predict future market prices. CVS’s valuation is 17%, a little less than S&P 500 which is 18.2%. Growth expectations is based on how the economy is doing and on the volatility. Volatility is measure of how much the stock price is likely to change over time, and the more risky it is, the more it will change. If the economy is change in a positive way then the stock price goes up and vice versa if the economy change is bad. The economy has been good and stable resulting in CVS expanding internationally. Required rate of return is a profit on an investment over a period of time, investors use this to see where to invest their money in. They use the dividend discount model to pick stocks; the RRR affects the maximum price they are willing to pay for a stock. When a company goes through the process of issuing a dividend, the company’s stock price can potentially be impacted. in two different ways. The first way is if the company declares a dividend payment that’s higher or lower than expected, market sentiment may shift causing the stock price to rise or drop accordingly. The second way is if an expected change in price occurs on the ex-dividend date when the company decreases its market cap by the declared shareholder payout. In CVS’s case, they are increasing their dividends, which means that the company is doing well overall.
The Multi-stage growth works better for this company because it take the dividend discount models a step closer to reality by assuming that the company will experience differing growth phases. Stock analysts build complex forecast models with many phases of differing growth to better reflect real prospects.
4. Free Cash Flow to the Firm (Dec 31, 2014)
|
Value of company |
146,747 |
|
· Value of debt |
12955 |
|
· Value of preferred stock |
0 |
|
Value of stock |
133792 |
|
Divide by # shares |
1060 |
|
Price per share |
126 |
Using the free cash flow to firm method, the stock’s value is determined from the value of company. This in turn is calculated by discounting the future cash flows to firms. Hence it is important to make sense of the growth rates used in estimating the future free cash flows in the next five years. These growth rates are taken from the dividend discount model with 10.96%, 12.29% and 13.62% for 2016, 2017 and 2018 respectively. From 2019 onwards, the growth is estimated to be constantly at 5%. This is considered a rather drastic drop from 13.62%. This can be explained by a number of reasons.
5. Multiples
In order to determine which multiples to use to value the company, we researched multiples for the industry the company is under as well as the company’s competitors. We looked for common multiples that were used by its competitors that we could compare our values with. From there we determined which multiples were the most relevant and useful in order to create an accurate valuation of the company. The multiples we decided to use are easily comparable to other companies with the industry such as Walgreens and McKesson.
One multiple we used is the price to earnings ratio which shows the growth potential for a company. The industry average is 23.40 so CVS is a little above average with a price to earning ratio of 24.64 which means its potential to growth in the future is a little more than other companies in its industry. Another multiple we used is the price to book ratio which shows if a stock is priced low compared to its potential for high growth. CVS has a price to book ratio of 3.01 compared to the industry average of 4.15 which shows that CVS is only worth three times more than its book value which is less than average. We also used the price to sales ratio which shows the value placed on each dollar of a company’s sales or revenues. The price to cash flows ratio can show whether a stock is undervalued or overvalued. We took these multiples and compared the value for CVS with the industry average as well as with some of its competitors.
|
Multiple |
Equation |
CVS Value |
|
P/E Ratio |
market price per share / annual earnings per share |
24.64 |
|
Price-to-Book Ratio |
stock price per share / shareholders’ equity per share |
3.01 |
|
Price-to-Sales Ratio |
share price / sales per share |
0.82 |
|
Price-to-Cash Flows Ratio |
share price / cash flow per share |
14.5 |
References
http://www.nasdaq.com/symbol/cvs/dividend-history
http://www.gurufocus.com/term/dividend_growth_5y/CVS/Dividend%2BGrowth%2BR
http://www.nasdaq.com/symbol/cvs/earnings-forecast
https://www.stock-analysis-on.net/NYSE/Company/CVS-Health-Corp/DCF/DDM
http://finance.yahoo.com/q/ks?s=CVS+Key+Statistics
https://research.valueline.com/secure/research#sec=company&sym=CVS
http://www.nasdaq.com/symbol/cvs/stock-comparison
http://www.wikinvest.com/stock/CVS_Caremark_Corporation_%28CVS%29
http://markets.ft.com/research/Markets/Tearsheets/Forecasts?s=CVS:NYQ
