I need some help in Finance projects

Research term paper

• Students in a team of 3 or 4 people • Term paper due on the final week

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Research term paper Seven major sections: l  Company background / introduction l  Industry research l  Company research l  Company financials l  Stock valuations l  Investment summary & recommendations l  Investment risk factors

Industry research

l  Porter’s five-force analysis l  Industry life cycle

l  Industry fundamentals:

l  competitive structure / market share l  long term demand /growth outlook l  Economic sensitivity

Company analysis

Compe..ve strengths •  Low cost producers •  Differen.ated products

Compe..ve strategies •  Low price strategy •  Differen.a.ng strategy /branding •  Focus / niche strategy

Financial analysis

•  Sales / growth analysis •  Profitability and margin analysis •  Asset turn over analysis •  Free cash flow analysis •  Financial leverage •  ROE analysis •  Internal growth rate

Stock valua.ons models: •  Dividend Discount Model •  Residual Income Model •  The PEG ra.o method

Stock valuation analysis

•  Create a stock data page (from yahoo/finance) •  Es.mate the stock discount rate using CAPM •  Es.mate growth rate: es.mated growth rate from yahoo finance / or internal growth rate •  Calculate stock valua.ons using the DDM and RIM models •  Set weighted price target •  Look up the stock PEG ra.o from yahoo finance •  Use the investment criteria to make buy /sell decision

Investment buy criteria

To buy a stock: •  AMrac.ve industry •  Strong compe..ve strengths •  Sound compe..ve strategies •  Strong financial condi.ons •  Stock price target: upside poten.al at least 20% •  PEG ra.o below market of 2.5

Team discussions items:

• Is the industry attractive: fast growing, high margin, high return on capital, growth stage of life cycle, etc. • What are the company’s competitive strengths? • What are the company’s competitive strategies? • How are the company’s financial conditions? • Does the price target from the stock valuation models provide 20% upside? • Is the stock’s PEG ratio below market PEG ratio ? • What’s the recommendation based on the buy criteria? • What’s the risks involved in the company and its stocks?

Example: Apple Inc. Stock Data: • Stock Price: $128 (as of 11/18/14) • Current dividend: $1.88 • Beta: 1.06 • P/E ra.o: 17 • Growth rate (next 5-year): 12.7% • PEG ra.o: 17 / 12.7 % = 1.2 • Book value: $21.2 per share •  ROE: 35% (fy2014) • Total shares outstanding: 5.9 billion

Apple Inc. Company Compe..ve strengths: 1.  Integrated products and services (one eco-system): hardware, soaware,

apps store, iclouds, Pay, etc 2.  Brand 3.  Customer loyalty 4.  Financial strength and profitability 5.  Ability to leverage current plaborm: Apple Pay, Watch 6.  Management

Apple Inc.

Compe..ve strategies: 1.  Differen.ated products 2.  Product quality and innova.ons 3.  Integrated offerings: hardware, soaware and services 4.  Third party developer contents and apps 5.  Company-own distribu.on network: retail stores 6.  New products/ services: Pay

Apple valuations: discount rate & growth rate

Apple Beta = 1.06 •  Discount rate using CAPM: k = 5% + 1.06 *6% = 11.4%

•  5-year growth rate es.mate: 12.7% (yahoo/finance) •  For my models, will use 10% growth rate

Market valuations

S&P 500 index (SPY): • Long term market risk premium: 6% • Longer range risk free rate: 5% • Market expected return = 5% + 1* 6% = 11% From Yahoo/finance: • Earnings growth rate long term: 7% • PEG ra.o: 2.5

Apple Inc: Perpetual DDM model

•  Current dividend: $1.88 per share •  dividend growth rate: 10% (assump.on) •  Discount rate: 11.4%

•  Fair value = $1.88 (1+10%) / (11.4% - 10%) •  = $148

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Apple: RIM model

•  Current book value per share: $21.2 •  Current ROE: 35% (will use 25% as long term ROE) •  long term growth rate assump.on: 10% •  Discount rate: 11.4%

•  Fair value = $21.2 + (25% -11.4%) / (11.4% - 10%)* $21.2 = $21.2 + $206 = $227

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Apple: Setting price target and recommendation

•  DDM fair value : $148 •  RIM fair value: $227 •  Weighted average price target: $187

•  Current price: $128 •  Stock upside poten.al: 46% •  Apple PEG ra.o: 17 / 10 % = 1.7 (< market PEG of 2.5)

•  Investment recommenda.on: buy

Apple investment summary Investment summary: •  AMrac.ve and high growth smart phone industry •  Strong compe..ve posi.ons with leading market share, integrated products and

services (one eco-system), strong brand and customer loyalty •  Sound compe..ve strategies: premium pricing, new and innova.ve products, one eco-

system •  Strong financial strength and profitability •  Stock upside poten.al over 20% •  PEG ra.o below market level of 2.5

Apple Inc.

Investment risk factors: • Increasing compe..on from Samsung / google android; • BeMer and improving low end alterna.ve (Xiaome, etc.) • Slowing smart phone market growth rate as demand satura.on increases • Overseas components sourcing and products manufacturing • Risk of new product cycle • Foreign government policy /restric.ons